Why the Philippines fails

In the Mid-Year Economic Briefing that I gave last week to members of the Cebu Business Club and guests from  other business groups in Cebu, I concluded that while we know where the country is weak and made us a laggard economy in Asia and where our neighbors are strong that made them successful and prosperous, we still do not how to take the first few steps towards faster, sustained and inclusive growth and to follow them consistently.

In his presentation to  CCCI members and guests yesterday, Norio Usui, senior country economist of the Asian Development Bank,  expounded on his proposal for the Philippines to take the right steps to  grow faster and achieve inclusive growth. As suggested in the sub-title of his paper, Taking the Right Road to Inclusive Growth, these steps can be summarized into two – industrial upgrading and diversification.

As I understood it, the point of Usui is that our neigbors in Asia that went into industrialization first with greater diversification were successful in going into a higher growth path and development while the Philippines which prematurely shifted to services in high gear before completing the process of industrialization remains poor, hence his proposal for the country to again try industrialization with greater diversification.

Usui was right, particularly when we consider the need to address  poverty in the country. Industries give more per worker in income but instead of expanding our industrial or manufacturing base and put more workers in them, we shifted prematurely to services in high gear which pays less and  only resulted in low level of per capita income in the country and high incidence of poverty.

In his report, however, Usui warned that as the growing literature in industrial development illustrates, industrial upgrading (or deepening if I may add) and diversification are unlikely to take place without public intervention due to failure in information, coordination and externalities. He said that recent literature also emphasizes that market failures require a public policy response or support specific to each product and that the government is  needed to play an active role in helping entrepreneurs take advantage of market opportunities.

Usui observed that the Philippines has a long tradition of public sector support for  domestic and foreign investors, mainly through investment promotion agencies (IPAs). He added, however, that while  IPAs have supported a wide range of priority industries in the Investment Priority Plans (IPP), the country has failed to attract investors, particularly foreign ones, and to spur local entrepreneurs in industry. According to him, most investors have regarded past provision of fiscal incentives as redundant which only resulted in revenue losses to the government corresponding to about 1 percent of GDP.

What Usui suggested was more public sector support that can be implemented by the government in two broad categories: one is to improve the general business and investment climate and another is to improve the efficiency of specific products and industries.

The first requires broad-based reforms necessary to address  long-standing challenges such as a tight fiscal position and weak business and investment climate. Fiscal consolidation is urgently needed, according to Usui, to increase spending on infrastructure, since public investment has been constrained by weak revenue performance and poor expenditure management. On the weak business and investment climate, Usui mentioned that the business community has been concerned about cumbersome business procedures and over-regulation, weak contract enforcement and property rights, and rigid labor market regulations and that these need to be changed.

While significant progress has recently been made both in fiscal consolidation and business environment, Usui pointed out, however, that experience in the country shows that broad-based public sector interventions are not enough to effectively develop the industry sector. He  stressed the critical importance of targeted interventions for industrial upgrading and diversification. Policymakers, according to Usui, need to think of more focused ways to identify interventions that would help promote new products that require very specific capabilities. He mentioned that cross-cutting issues such as infrastructure have sector or product-specific consequences. As an example, he cited that building  roads instead of ports will have product-specific consequences.

Those are the insights I got from Usui’s  presentation and reading his paper. Unfortunately, not many people in government, particularly policy makers,  may have heard of this.

In the same way, not  many people who  matters in government may have  read  the book “Why Nations Fail”, that has drawn a lot of praise  internationally. Written by Daron Acemoglu and James A. Robinson, the book shows that it is not culture, the weather, geography or even ignorance that destined nations to fail and left their people in poverty. It is man-made political and economic institutions that underlie ies economic success or  lack of it – a system that allowed only the powerful in government and their cronies in business to extract the wealth of the nation mostly for their own benefit  at the expense of the masses.