Improving Public Infrastructure
in the Philippines
Takuji Komatsuzaki∗
the macroeconomic effects of
the analysis uses a dynamic general equilibrium model
This paper explores
improving public
infrastructure in the Philippines, modeling the infrastructure scale-up plan
being implemented by the current administration. After benchmarking the
Philippines’ level of infrastructure investment, quantity and quality of public
infrastructure, and public investment efficiency relative to its neighboring
countries,
A
raising public
quantitatively assess the macroeconomic implications of
investment expenditure with different financing schemes and different rates of
public investment efficiency. Critically dependent on a model structure in which
accumulation of publicly provided infrastructure raises the overall productivity
of the economy,
the model simulations show that (io) increasing public
infrastructure investment results in sustained gains in output, (ii) the effects of
improving public investment efficiency are substantial, E (iii) deficit-financed
increases in public investment lead to higher borrowing costs that constrain
produzione
increases over time. These results underscore the importance of
improving public investment efficiency and revenue mobilization.
Keywords: infrastructure, Philippines, public investment efficiency, revenue
mobilization
JEL codes: E22, E62, H54
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IO. introduzione
Upgrading public infrastructure is a major structural challenge in the
Philippines. A 20.6% of gross domestic product (GDP) In 2014, the investment
rate in the Philippines is well below its regional peers (Figura 1). Main impediments
to private investment are inadequate infrastructure, a weak investment climate, E
restrictions on foreign direct investment. In the past, a low revenue base and fiscal
consolidation prevented sufficient resource allocation for public investment, while
weak implementation capacity led to budget underexecution. Raising investment,
particularly in infrastructure, would allow the country to reap the dividends of its
∗Takuji Komatsuzaki: Senior Economist, International Monetary Fund (IMF), Washington, DC. E-mail address:
tkomatsuzaki@imf.org. I am grateful to the Philippine authorities, Chikahisa Sumi, Ha Vu, Prakash Loungani, Grace
Li, an IMF team sent to the Philippines, and seminar participants at the Central Bank of the Philippines and the IMF
for insightful comments. I would also like to thank the managing editor and the journal referees for helpful comments
and suggestions. ADB recognizes “Korea” as the Republic of Korea. The usual ADB disclaimer applies.
Asian Development Review, vol. 36, NO. 2, pag. 159–184
https://doi.org/10.1162/adev_a_00135
© 2019 Asian Development Bank and
Asian Development Bank Institute.
Pubblicato sotto Creative Commons
Attribuzione 3.0 Internazionale (CC BY 3.0) licenza.
160 Asian Development Review
Figura 1.
Investment, Philippines
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GDP = gross domestic product.
Fonte: International Monetary Fund. World Economic Outlook Database. https://www.imf.org/en/Publications
/SPROLLS/world-economic-outlook-databases#sort=%40imfdate%20descending (avuto accesso 26 Febbraio 2019).
young and growing population. To address this issue, the Philippine government
embarked on an infrastructure push under the Duterte administration. It started
with increasing capital expenditure by 1% of GDP in 2016 and a further 0.3% Di
GDP in 2017, and the government plans to increase this further over the medium
term. Immediate priorities include implementing a transport system in Manila and
improving airports, road connectivity, and seaports across the country.
Although there is a consensus that public infrastructure needs to be improved,
the macroeconomic effects of doing so may differ depending on how this is done.
Primo, there is a choice between deficit financing and tax financing to support an
increase in government spending. In this context, the expenditure increase, so far,
has mostly been financed by deficits, although the administration aims to implement
a comprehensive tax reform to make the tax system simpler, fairer, and more
efficient. Infatti, in December 2017, the government passed the first round of
tax reform, which lowered personal income taxes while raising duties on fuel,
cars, coal, and sugar-sweetened drinks and also broadened the value-added tax
base. The government is committed to a 3% of GDP deficit target at the national
government level, which suggests that the increase in infrastructure spending in
2018 and thereafter will be financed by increasing revenue. Revenue mobilization
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Improving Public Infrastructure in the Philippines 161
has always been challenging in the Philippines, Tuttavia, and there is uncertainty on
whether the government’s plan will be legislated and implemented as envisaged.
Inoltre, the effect of a spending increase also depends on public investment
efficiency. The same level of government spending will lead to a higher stock of
public infrastructure when spending is planned, budgeted, and implemented more
efficiently.
This paper explores the macroeconomic implications of improving public
infrastructure by increasing public investment expenditure.1 The analysis first
benchmarks the Philippines relative to its neighbors in terms of size of infrastructure
investment, quantity and quality of public infrastructure, and public investment
efficiency. It confirms that infrastructure investment and the quantity and quality of
public infrastructure are relatively low in the Philippines relative to other countries
in the Association of Southeast Asian Nations (ASEAN), and that there is room
for improvement in public investment efficiency. Subsequently, the paper simulates
an increase in public investment expenditure to illustrate its macroeconomic effects
using the Global Integrated Monetary and Fiscal (GIMF) model of the International
Monetary Fund (IMF) and then distills policy implications from the analysis.
Model simulations suggest that improving public infrastructure would result
in a sustained output increase. The baseline scenario considers the government’s
program, in which public investment increases by 1.2% of GDP for the first 2
years (2016–2017) and a further 2% of GDP in subsequent years. The increase in
spending is financed by deficits for the first 2 years but by revenue mobilization
thereafter. Assuming the same increase in public investment,
two alternative
scenarios are considered to illustrate the effects of alternative financing and public
investment efficiency. In the first alternative scenario, no further tax reform will
take place after December 2017, implying that deficit financing of infrastructure
spending will increase from 2018 onward. In the second alternative scenario, public
investment efficiency is higher. All scenarios exhibit sustained gains in output
driven by the particular structure of the GIMF model, in which improving public
infrastructure leads to gains in overall productivity of the economy, which crowds
in private investment. Specifically, real GDP is higher than the steady state by 9.5%
in the baseline scenario and 8.5% in the first alternative scenario after 15 years.
The improvement in public investment efficiency generates substantial additional
benefits. Assuming that the size of the inefficiency is halved, the increase in real
GDP after 15 years is 11.7%.
Alternative schemes to finance increases in public investment generate
different dynamics in public debt, consumption, and investment. While the public
debt-to-GDP ratio increases by about 9 percentage points in the baseline scenario,
1Public–private partnership (PPP) will also play an important role in improving public infrastructure in the
Philippines, which has embarked on an ambitious PPP program. Inoltre, the appropriate types of financing could
vary depending on the types of projects. This paper focuses on government budget spending on public infrastructure.
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162 Asian Development Review
the increase is more substantial at 24 percentage points in the first alternative
scenario because it relies more on deficit financing. The larger increase in public
debt increases borrowing cost and constrains investment over time in the first
alternative scenario. In contrasto, consumption is initially subdued in the baseline
scenario because the increase in consumption tax lowers households’ disposal
income. While output gains are initially higher in the first alternative scenario,
these gains become higher in the baseline scenario over time, with the increase
in government’s borrowing cost in the first alternative scenario playing a key role.
Increases in public investment expenditure also influence the current account
and inflation. It initially leads to a worsening current account and also generates
additional domestic demand and thus inflationary pressures. Over time, an increase
in supply capacity alleviates inflationary pressures.
Sensitivity analyses exhibit the expected results and also highlight the critical
role of the structure of the model in generating the baseline results. Three sensitivity
analyses are performed and compared with the baseline to highlight the role
of important model features: (io) altering sovereign borrowing cost parameters,
(ii) altering tax instruments, E (iii) shutting down the role of public capital
in enhancing overall productivity. In (io),
the size of the increase in output,
private investment, consumption, inflation, and the worsening current account are
negatively associated with the slope of the sovereign borrowing cost vis-à-vis the
public debt-to-GDP ratio. In (ii), equal distribution of revenue mobilization to
corporate income tax, personal income tax, and consumption tax results in a smaller
drag on consumption initially, a larger drag on investment, and lower output, relative
to the baseline scenario in which a consumption tax is the sole source of revenue
mobilization. In (iii), shutting down the role of public capital on overall productivity
results in no medium-term effect from fiscal spending. This result highlights that
sustained economic growth crucially depends on the model property that publicly
provided infrastructure improves overall productivity of the economy.
With the country’s low capital stock and fast-growing young population,
addressing the large infrastructure gap is needed to raise potential growth and
reduce poverty. This paper shows that increasing public investment spending can
generate sustained output growth, and improving public investment efficiency can
bring about substantial additional benefits. It also shows that deficit financing and
tax financing can have different dynamics in some macroeconomic variables. Given
the need to ensure debt sustainability amid the large spending needs in other priority
spending areas for inclusive growth, continued efforts to mobilize revenue through
a comprehensive tax reform will be critical.
II. Literature Review
This study is closest to the literature that investigates the quantitative
effects of public investment increases on economic growth using dynamic general
equilibrium models. While studies have applied these models to a wide variety
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Improving Public Infrastructure in the Philippines 163
of countries to examine the effect of scaling up public investment (see Elekdag
and Muir [2014] for application to Germany), few of them incorporate public
investment efficiency outside of applying it to low-income countries.2 A study
by the IMF (2014) takes a first step in modeling the effect of public investment
efficiency, whose structure this paper also adopts.
There is an extensive empirical literature on the effect of public investment
and public infrastructure on economic growth, but the results are not conclusive.
There are several issues, including data availability on infrastructure, measurement
of infrastructure spending and its efficiency, and potential reverse causation in
which higher economic growth generates an increase in public capital spending.
Straub (2008), Romp and de Haan (2005), and Pereira and Andraz (2013) provide
comprehensive reviews. Two studies by the IMF (2014 E 2015) are among the
attempts to control for public investment efficiency. These studies estimate stronger
growth effects of public investment in a high public investment efficiency regime,
consistent with the results in this paper.
Weak public infrastructure and low public investment in the Philippines
have been well documented in the literature. Historical accounts include papers by
Montes (1986), Dohner and Intal (1989), Rodlauer et al. (2000), Bocchi (2008), E
Warner (2014). The literature consistently documents low investment rates for the
Philippines and considers this a major challenge. It also documents governance and
public investment management problems. A study by the Asian Development Bank
(ADB) (2017) provides the latest estimates of the status of public infrastructure and
infrastructure investment needs in Asia, which this paper draws on.
III. The State of Public Infrastructure in the Philippines
This section documents stylized facts on the status of infrastructure
investment, the level of infrastructure, and public investment efficiency in the
Philippines. The analysis confirms that the Philippines had low infrastructure
investment in the past and that the quality and quantity of the currently available
infrastructure are low relative to other ASEAN countries. The analysis also
introduces a cross-country estimate of public investment efficiency, which is an
important element in translating infrastructure spending into actual improvements
in infrastructure.
UN.
Infrastructure Investment
Public investment has been consistently low in the Philippines, Infatti
the lowest among ASEAN countries in recent years, averaging 2.5% of GDP
2There is a series of papers, such as by Buffie et al. (2012); Melina, Yang, and Zanna (2014); Gupta, Li, E
Yu (2015); and Balma and Ncube (2015), that study financing for development and scaling up public infrastructure
using a model that captures the economic structure of low-income developing countries.
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164 Asian Development Review
Figura 2. Public Investment and Public Capital Stock, Association of Southeast
Asian Nations
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GDP = gross domestic product, Lao PDR = Lao People’s Democratic Republic, PPI = private participation in
infrastructure, PRC = People’s Republic of China.
Note: *Central government budget only.
Sources: International Monetary Fund. 2015. “Making Public Investment More Efficient.” IMF Policy Paper; Asian
Development Bank. 2017. Meeting Asia’s Infrastructure Needs. Manila; and IMF staff estimates.
in 2000–2014 (Figura 2, upper panel). Public investment is an imperfect measure
of infrastructure investment, Tuttavia, because state-owned enterprises and the
private sector also invest in infrastructure, not just the government. A study by
Improving Public Infrastructure in the Philippines 165
ADB (2017) took a careful look at the measurement of infrastructure investment
in developing Asia, focusing on transportation, electricity generation capacity, E
telecommunication and water infrastructure, collecting information from multiple
data sources. Using its preferred measure of infrastructure investment that includes
only budget spending on infrastructure and private participation in infrastructure,
the Philippines’ infrastructure investment is a little over 2% of GDP, 1.5 percentage
points lower than the sample average (Figura 2, lower panel). This pattern is
confirmed using two other measures of infrastructure investment (ADB 2017).
Therefore, the analysis concludes that the Philippines’ infrastructure investment has
been low relative to other countries in the region.
B.
Status of Infrastructure
Quantitative indicators show an uneven picture (Figura 3). Electricity
generation capacity per capita is among the lowest in ASEAN. Given the continuing
and prospective high economic growth in the Philippines, there is an acute need
to enhance capacity. Power transmission and distribution loss is at the ASEAN
average, but with room for further improvement. D'altra parte, mobile cellular
subscription is high at more than one per person, similar to most ASEAN countries.
Access to improved water sources and sanitation facilities are both at the ASEAN
medie.
Survey-based indicators paint an unfavorable picture (Figura 4). IL
World Economic Forum’s global competitiveness report surveys business leaders’
impressions on a wide range of topics in the business environment on a scale of 1–7.
The report places the Philippines among the lowest in ASEAN in key infrastructure
services and substantially lower than the ASEAN average in overall infrastructure
and all of its subcomponents.
In sum, most
the Philippines’
indicators of infrastructure suggest
infrastructure lags behind its ASEAN peers, Quale, given the prospects of high
demand for infrastructure from economic and demographic growth, indicates that
there is a need for a significant upgrade.
Quello
C.
Public Investment Efficiency
An IMF study (2015) developed the public investment efficiency indicator,
an outcome-based estimation of public investment efficiency (Figura 5). Primo, IL
public capital stock (input) and indicators of access to and quality of infrastructure
assets (produzione) are documented for over 100 countries. Then the public investment
efficiency frontier is estimated as the highest levels of output that can be achieved
for given levels of input. Finalmente, an efficiency score is derived for each country as
the distance from the frontier. A country’s score is higher if a given level of public
capital stock is associated with higher access to and quality of infrastructure assets.
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166 Asian Development Review
Figura 3. Quality of Infrastructure
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Lao PDR = Lao People’s Democratic Republic.
Note: The horizontal lines are averages.
Sources: International Energy Statistics. https://www.iea.org/statistics/index.html; World Bank. World Development
Indicators. https://datacatalog.worldbank.org/dataset/world-development-indicators (both accessed 31 ottobre
2018).
Improving Public Infrastructure in the Philippines 167
Figura 4. Quality of Infrastructure, Association of Southeast Asian Nations
(Scale of 1–7)
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Lao PDR = Lao People’s Democratic Republic.
Note: The horizontal lines are averages.
Fonte: World Economic Forum. 2017. The Global Competitiveness Report 2017–2018. Geneva.
168 Asian Development Review
Figura 5. Cross-Country Comparison of Public Investment Efficiency
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AE = advanced economies, EM = emerging market, LIDC = low-income developing countries, PPP = purchasing
power parity.
Notes: The efficiency frontier shows the level of infrastructure quality (produzione) at a given capital stock per capita
(input). The closer a country is to the efficiency frontier, the more efficient its public investment.
Fonte: International Monetary Fund. 2015. “Making Public Investment More Efficient.” IMF Policy Paper.
The score is defined separately for advanced, emerging market, and low-income
economies because of the large divergence in income per capita, and the relationship
between input and output is likely to be nonlinear as income per capita increases.
The estimation results show that the efficiency gap is around 30% on average for
the full sample and the emerging market economies subsample.
IV. Global Integrated Monetary and Fiscal Simulations
UN. Model and Calibration
This section simulates the macroeconomic effects of public investment
expenditure using the GIMF model. The GIMF is a multiregion general equilibrium
macroeconomic model developed by the IMF’s Research Department. It has
optimizing producers and households, frictions in the form of sticky prices and
wages and real adjustment costs, a financial accelerator mechanism, monetary
policy that follows inflation-forecast targeting, and fiscal policy that ensures debt
sustainability. The model allows for discretionary fiscal policy in the short run,
and includes a detailed description of fiscal policy that allows for the choice
Improving Public Infrastructure in the Philippines 169
of seven different fiscal policy instruments encompassing both revenue and
expenditure measures. The finite lifetime of households, some of whom are liquidity
constrained, implies that the model generates strong macroeconomic responses to
fiscal shocks. Inoltre, public investment creates public capital, which contributes
to overall domestic output, as the final output uses both private and public capital as
inputs. In addition to this default structure of the GIMF model, this paper introduces
an endogenous change in sovereign borrowing premium as a function of public
debt-to-GDP ratio in a stylized way, to take into account the macroeconomic effects
of debt accumulation through borrowing costs. A three-region (Philippines, rest of
emerging Asia, and rest of the world) version of the model is used, and the focus
is on dynamics in the Philippines. Parameters for the Philippines are calibrated to
the current state of the Philippine economy (see table on page 173). Below is a
more detailed description of notable features of the model that are most relevant
to this paper. Kumhof et al. (2010) and Anderson et al. (2013) elaborate further on
the theoretical structure and main simulation properties of the GIMF model more
generally.
1.
Households
There are two types of households who receive utility from consumption and
disutility from labor in a standard utility function and who maximize lifetime utility.
Primo, there are overlapping-generation (OLG) households who make decisions on
borrowing, saving, and labor supply over a 20-year planning horizon. Secondo, there
are liquidity-constrained (LIQ) households who differ from OLG households in that
they do not save and have no access to credit. The finite horizon in both households’
optimization problem and the LIQ households’ large propensity to consume out of
income generate a strong effect for fiscal policy in the model. The relative size of
LIQ households (η) is calibrated to be 50% of total households.
2.
Production
Domestic manufacturers produce either tradables (Y T H
) or nontradables (Y N
T )
and solve profit maximization problems. They are monopolistically competitive in
produzione, and price setting is subject to nominal rigidities. Manufacturers use private
capital (Kt) and labor (Lt) as inputs, which capital goods producers and households
provide, rispettivamente. For firm i in sector J = TH, N, the production function is
T
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(cid:2)
T (io) =
Y J
(1 − αJ )
1
ξ
J
(cid:4) ξ
(cid:3)
KJ
T (io)
J
ξ
−1
J + (αJ )
1
ξ
J
(cid:3)
TtAJ
t LJ
T (io)
(cid:5) ξ
ξ
J
J
−1
(cid:4) ξ
J
ξ
−1
J
(1)
where TtAJ
(Tt) and sector-specific technology shock (AJ
t is labor-augmenting productivity comprised of trend technology growth
T ).
Then Y A
the country (ZD
T ):
(cid:4)αG1S
(cid:3)
KG1
T
ZD
T
= Y A
T
170 Asian Development Review
Production of private capital
to a financial
accelerator mechanism adapted from Bernanke, Gertler, and Gilchrist (1999),
which amplifies business cycle dynamics. Unions organize households’ labor
supply in the labor market, which generates nominal rigidity in wages.
is standard but
is subject
Distributors combine output of domestically produced tradables (Y T H
foreign-produced tradables (Y T F
combine Y T
and Y N
T
T
the following production function:
T
) and produce composite tradables (Y T
, aggregating them into final private goods (Y A
) E
T
T ). They then
T ) secondo
(cid:2)
(cid:3)
˜αTt
Y A
T
=
(cid:4) 1
ξ
UN (Yt
ξ
UN
ξ
−1
UN +
T )
(cid:3)
˜αNt
(cid:4) 1
ξ
UN (Yt
(cid:5) ξ
ξ
UN
ξ
UN
ξ
−1
UN
N )
UN
−1
(2)
t are combined with public goods to produce the final domestic output of
(3)
T
αG1S = 1). ZD
where S is a technology scaling factor used to normalize steady-state technology
A 1 (( ¯KG1)
is distributed to producers of domestic consumer goods
and producers of domestic investment goods or exported to importers of foreign
final goods. Consumer goods are consumed by households and the government, E
investment goods are demanded by producers of capital goods and the government
to produce private and public capital, rispettivamente. Final goods exported are used
for foreign consumption and production.
T
A higher KG1
increases overall productivity of the economy for a given
if αG1 > 0. This also leads to higher marginal productivities of capital
level of Y A
T
and labor. Combining (1), (2), E (3), marginal productivities of capital and
∂Y A
T
,
∂Lt(cid:6)(cid:7)(cid:8)(cid:9)
>0
labor in sector J = TH, N are MPKJ
T
∂Y A
T
∂Kt
(cid:6)(cid:7)(cid:8)(cid:9)
>0
and MPLJ
T
= (KG1
= (KG1
)αG1
)αG1
T
T
rispettivamente. Therefore marginal productivities increase in KG1
while KG1
T
does not affect marginal productivities if αG1 = 0.
T
Output elasticity of public capital (αG1), a key parameter, is set at 0.1,
more conservative than the estimate in Bom and Ligthart (2014), where estimated
elasticities of output to public capital installed by the national government are 0.122
for all public capital and 0.17 for core infrastructure capital.
as long as αG1 > 0,
Government investment spending augments the stock of publicly provided
. Evolution of KG1
, after rescaling by growth in
infrastructure capital per capita KG1
technology (G) and population (N), is given by3
T
T
t+1 (1 + G) (1 + N) = (1 − δG1) KG1
KG1
T
+ Ginv
T
3In the model, n and g are used to allow for trend growth in technology and population that is region specific
while ensuring stationarity of the model.
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Improving Public Infrastructure in the Philippines 171
Government investment spending is part of fiscal policy, which the analysis turns to
in the next section.
3.
Fiscal Policy
The government’s budget constraint after rescaling by growth and technology
È
bt + τt = it−1
πtgn
bt−1 + pG
t Gt + ϒt
where bt is public debt, it−1 is gross nominal interest rate, E
τt = τL,t wtLt
(cid:6)(cid:7)(cid:8)(cid:9)
labor income
+ τc,T
pc
t Ct
(cid:6)(cid:7)(cid:8)(cid:9)
consumption
+ τls,T + τk,T
(cid:10)
(cid:11)
j=N,T
(cid:6)
Gt = Gcons
T
τls,t = τls,T
ϒt = ϒ OLG
+ Ginv
T
OLG + τls,T
+ ϒ LIQ
T
T
LIQ
t rJ
uJ
k,T
− a
qJ
T
− δJ
Kt
(cid:7)(cid:8)
return to capital
(cid:4)(cid:12)
(cid:3)
uJ
T
¯KJ
T
(cid:9)
The model allows a choice of seven different revenue and expenditure
policies: taxes on capital (τk,T), labor (τL,T), and consumption (τc,T); government
); general transfers (ϒt) O
consumption (Gcons
lump-sum tax (τls,T); and transfers exclusive to LIQ households (ϒ LIQ
From the budget constraint, overall fiscal surplus (gst) È
); government investment (Ginv
).
T
T
T
gst = −
(cid:5)
(cid:2)
bt − bt−1
πtgn
= τt + gX
T
− pG
T
− ϒt − it−1 − 1
πtgn
bt−1
Fiscal policy ensures a nonexplosive government debt-to-GDP ratio by adjusting
tax rates or by reducing expenditure so that the debt-to-GDP ratio always returns to
the calibrated steady-state values in the long run. This implies that fiscal deficit can
deviate temporarily, but not permanently, from the level that is consistent with the
steady-state debt-to-GDP ratio. in questo documento, the Philippines’ long-run overall fiscal
deficit-to-GDP ratio (−gssrat
) is set to 2% to be consistent with recent history. Così,
T
the deficit level under the current administration is interpreted as a temporarily
higher deficit. The steady-state long-run debt-to-GDP ratio (bssrat
) È 45%, set to
be consistent with the steady-state overall fiscal deficit of 2%.
T
Public investment inefficiency is introduced in the model by assuming that
not all public investment spending contributes to the formation of public capital.
Specifically, part of the budgeted public investment (Ginv
) is reclassified as public
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172 Asian Development Review
T
), which is unproductive in the model by construction.4 The
consumption (Gcons
size of the reclassification is dependent on the degree of inefficiency, che è
set at 30% in the baseline, drawing on the emerging market economy average in
an IMF study (2015) (see section III.C). Reflecting this assumption, steady-state
government investment is assumed to be 2.3% of GDP, although officially it has
been 3.3% of GDP on average since 2011 at the general government level.
4. Monetary Policy
Monetary policy follows an inflation-forecast targeting interest rate rule that
responds to deviations of inflation forecasts from the target. In particular, IL
short-term rate is set by targeting a weighted average of current and 1-year ahead
inflation, while steady-state inflation is set at 2%.
5.
Risk Premium of Sovereign Debt
It is assumed that there is a premium in the government’s borrowing cost that
is increasing in the debt-to-GDP ratio. Following Schule (2010), it is specified as
log (1 + premiumt ) = β1 + β2/(Blimit − Bt/GDPt )β3 + εt
The premium is set to rise by 3 basis points per increase in the debt-to-GDP
ratio in the baseline, but sensitivity analyses will also be performed given the
uncertainty on this calibration. Changes in the borrowing cost by the government
are translated to the borrowing cost of the private sector in the GIMF model.
B.
Scenarios
The baseline scenario follows the government’s program in which an
infrastructure scale-up of 1.2% of GDP for the first 2 years and another 2% of GDP
in subsequent years takes place, financed by a deficit increase for the first 2 years
but by revenue mobilization thereafter. This is based on the Duterte administration’s
record so far and its plan going forward, starting in 2016. Public investments in
the first 2 years are actual increases, equal to 1.2% of GDP during 2016–2017
and financed by a deficit increase, according to the IMF (2018). Infrastructure
increase for 2018 onward is a projection. The authorities envisage ₱8 trillion–₱9
trillion public infrastructure spending over 2017–2022.5 Dividing ₱8.5 trillion by
the average of the 2017–2022 nominal GDP projection in the IMF (2018) results in
6.8% of GDP. This is 2% of GDP higher than the 2017 actual spending. With respect
to financing, the authorities passed the first tax reform package in December 2017
4This specification follows a similar exercise in IMF (2014).
5BuildBuildBuild. Philippine Infrastructure Transparency Portal. http://www.build.gov.ph/.
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Improving Public Infrastructure in the Philippines 173
Calibration for the Philippines
Description
Capital–labor elasticity of substitution for domestic tradables and
nontradables production; default value in GIMF
Tradable–nontradable elasticity of substitution; default value in GIMF
Share of LIQ households; set relatively high as typical in emerging
markets and low-income countries
Elasticity of output to public capital; more conservative than Bom and
Ligthart’s (2014) estimate of all public capital (0.122) and core
infrastructure capital (0.17), which was used in IMF (2014)
Depreciation rate of public capital; default value in GIMF
Endogenously derived as β1 = −
β2
so that
(cid:13)
(cid:14)β3
Blimit − B
GDP
log(1 + premiumt ) = 0 at steady state
Slope of sovereign debt premium function; lower than Peiris (2015)
estimate of 0.0005–0.0006 to account for recent improvements in
fiscal management
Curvature of sovereign debt premium function; −1 implies linearity
Upper limit for public debt-to-GDP ratio; higher than historical
maximum
Steady-state public debt-to-GDP ratio
Steady-state overall fiscal balance-to-GDP ratio
Parameters
ξJ , J = T H, N
ξA
η
αG1
δG1
β1
β2
β3
Blimit
bss
gss
Value
1
0.5
0.5
0.1
0.04
−0.0003
−1
80
45
−2
GDP = gross domestic product, GIMF = Global Integrated Monetary and Fiscal, IMF = International Monetary
Fund, LIQ = liquidity constrained.
Sources: Kumhof, Michael, Douglas Laxton, Dirk Muir, and Susanna Mursula. 2010. “The Global Integrated
Monetary and Fiscal Model (GIMF)—Theoretical Structure.” IMF Working Paper No. 10/34; Internazionale
Monetary Fund. 2014. World Economic Outlook, ottobre 2014, Chapter 3. Washington, DC; and author’s
calculations.
amounting to 0.5% of GDP while also planning for further tax reform to prevent the
deficit from increasing further. Consumption tax is envisaged as the main source of
revenue mobilization.
The first alternative scenario considers the same increase in infrastructure
spending, but assumes there is no further revenue mobilization after the tax
legislation passed in December 2017. Therefore, the increase in infrastructure
spending is financed by an increase in overall fiscal deficit, except for the 0.5%
of GDP covered by the December 2017 legislation.6 Expenditure reallocation is
not considered as a tool to finance public investment given the small size of total
government expenditure in the Philippines and the existence of other spending
priorities that makes it difficult to reallocate expenditure at a large scale.
The second alternative scenario considers efficiency gains from the baseline.
In this improved efficiency scenario, the size of public investment inefficiency is
half the 30% inefficiency in the baseline.
6To ensure that all scenarios go back to the same level of debt-to-GDP ratio in the long run, IL
deficit-financed public investment scale-up is limited to the first 25 years. The study’s comparison focuses on the
periods in which the public investment scale-up is financed by the deficit in the first alternative scenario.
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174 Asian Development Review
C.
Results
The baseline scenario leads to sustained gains in real GDP (Figura 6). Public
investment increases have sustained output effects beyond the direct demand effect
of the spending increase because of the productivity-enhancing impact of public
infrastructure. As public capital is an input to the aggregate production function of
the economy, the improved public infrastructure raises overall productivity, akin to
an increase in total factor productivity from the perspective of the private sector.
The resulting increase in marginal productivity of capital and labor crowd in private
investment and increase demand for labor, which induce a higher consumption due
to higher household income. The increase in public investment results in a 9.5%
cumulative increase in real GDP relative to the steady state after 15 years.
In the first alternative scenario with no further tax reform package, the output
gains are initially higher than in the baseline scenario, although the gains will
become larger in the baseline over time, with the increase in the government’s
borrowing cost playing a key role. The baseline scenario results in smaller output
gains in the short to medium term because the tax increase reduces consumption,
partially offsetting the demand increase from higher public investment. Over
time, Tuttavia,
the continuous increase in the debt-to-GDP ratio in the first
alternative scenario increases domestic interest rates, with negative effects on
private investment and consumption and leading to decelerating output growth.
The increasing influence of the government’s borrowing cost over time can
be seen by comparing the paths of long-term real interest rates, the interest rate most
relevant for the investment decisions of the private sector. In the GIMF model, an
increase in the government’s borrowing cost due to an increase in the risk premium
leads to a parallel increase in all domestic interest rates. Additionally, domestic
interest rates are also affected by monetary policy. The long-term real interest
rates reflect both of these factors and increase on impact for both the baseline
scenario and the first alternative scenario. Tuttavia, the increase is larger for the
latter in anticipation of the future increase in the risk premium. The paths further
diverge from each other over time, driven by the increasing risk premium in the first
alternative scenario.
Improving public investment efficiency generates an additional
impact.
Raising public investment efficiency to about 85% increases output by
2.1 percentage points after 15 years compared with the baseline scenario. Nel
baseline scenario of 30% inefficiency, UN 6% of GDP public investment results
in un 4.2% of GDP contribution to public infrastructure. When public investment
inefficiency is reduced to 15%, the same 6% of GDP public investment results
in un 5.1% of GDP contribution to public infrastructure and a cumulative increase
in efficiency generates
in GDP of 11.7% after 15 years. This improvement
increasing consumption and investment and decreasing the
balanced effects,
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Improving Public Infrastructure in the Philippines 175
Figura 6. Main Simulation Results
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GDP = gross domestic product, PIE = public investment efficiency.
Notes: The x-axis shows the number of years since the start of the simulation. T = 1 is set to the year 2016.
Fonte: Author’s calculations.
176 Asian Development Review
debt-to-GDP ratio relative to the scenarios without
investment efficiency.
improvements in public
Additional demand from higher public infrastructure gives rise to inflationary
pressures and a positive output gap, inducing an increase in the policy interest rate.
Different degrees of inflation can be explained by the different sizes of private
investment crowding in and the resulting consumption increase. Over time, an
increase in supply capacity alleviates the inflationary pressures and the policy rate
increases are gradually reversed in all scenarios.
The current account exhibits an initial deterioration, mostly because of higher
imports. Exports also decline initially due to the initial real appreciation associated
with the policy interest rate increase. Subsequently, exports increase as investment
stimulates production and the initial real appreciation is reversed, in line with the
reversal of initial monetary tightening, which partially offsets the worsening current
account. The size of the current account deficit-to-GDP ratio increase is roughly
proportional to the output increase and reaches 1.2 percentage points after 3 years
in the baseline scenario and 1.5 percentage points after 3 years in the two alternative
scenarios.
D.
Sensitivity Analysis
This subsection considers three types of sensitivity analyses: changes in the
assumption on the borrowing cost premium, changes in the tax mix, and shutting
down the role of public capital in enhancing overall productivity.7
1.
Alternative Borrowing Cost Premia
Given the key role of borrowing interest rates on output dynamics,
two additional calibrations on the borrowing cost premium are examined. IL
relationship between public debt and the borrowing cost is uncertain and affected
by various factors, both global and local.8 A higher calibration sets the premium
at 5 basis points per unit increase in the debt-to-GDP ratio. This draws on Peiris
(2015), who estimated the determinants of 10-year government bond yields in the
Philippines, while controlling for a comprehensive list of variables, and finds that
the marginal effect of a unit increase in the debt-to-GDP ratio is 5–6 basis points.
The baseline in this study has adopted a lower estimate of the borrowing cost
based on recent improvements in the Philippines’ fiscal management, as reflected in
credit rating upgrades in recent years, interpreting these improvements as structural
i cambiamenti. It is also possible to assume that the transformation has led to an even
7Simulation results are based on no improvements in public investment efficiency. Improvements in public
investment efficiency would result in a parallel increase in output, investment, consumption, eccetera.
8Baldacci and Kumar (2010), and the review therein, estimate that the response of borrowing costs to changes
in public debt ranges from 3 A 7 basis points per unit increase in the debt-to-GDP ratio.
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Improving Public Infrastructure in the Philippines 177
Figura 7. Sovereign Risk Premia for Different Assumptions
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Fonte: IMF staff estimates.
lower borrowing cost. This is the lower premium calibration, which assumes a 1
basis point response per unit increase in the debt-to-GDP ratio. Figura 7 shows the
borrowing cost premia for the three scenarios.
The simulations show the expected results (Figura 8). The effect on output of
scaling up public investment is more subdued the higher the increase in borrowing
cost. Trajectories of all the other variables change accordingly.
2.
Alternative Tax Instruments
Revenue mobilization to finance public investment may require the use of
multiple sources. Reliance solely on the consumption tax, assumed in the baseline
scenario, implies a tax rate increase of around 2.7%. This may not be politically
feasible and other revenue sources may be found. To capture this possibility, IL
analysis assumes that revenue mobilization is equally distributed to capital, labor,
and consumption taxes in this alternative scenario.
The results show that there is less drag on consumption initially and more
drag on investment (Figura 9). Output growth is lower in this alternative scenario
than in the baseline. The superiority of indirect taxes on growth is a general feature
of the GIMF model (Anderson et al. 2013) and is consistent with Lucas (1990) E
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178 Asian Development Review
Figura 8. Alternative Borrowing Cost Results
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GDP = gross domestic product.
Notes: The x-axis shows the number of years since the start of the simulation. T = 1 is set to the year 2016.
Fonte: Author’s calculations.
Improving Public Infrastructure in the Philippines 179
Figura 9. Alternative Revenue Mobilization Results
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GDP = gross domestic product.
Notes: The x-axis shows the number of years since the start of the simulation. T = 1 is set to the year 2016.
Fonte: Author’s calculations.
180 Asian Development Review
Chari, Christiano, and Kehoe (1994), which demonstrate the distortionary effect
of capital and labor taxation on investment and labor supply. It has also been
established empirically on average, as documented in Johansson et al. (2008) E
Acosta-Ormaechea and Yoo (2012).
Rationalization of tax incentives has the potential to mobilize revenue while
mitigating negative effects on growth. It has been shown that tax incentives in
the Philippines are not well targeted (Botman, Klemm, and Baqir 2008). Their
rationalization could raise revenue without raising statutory rates, thus mitigating
the negative effects on private investment. Tax exemptions, Tuttavia, are outside of
the model in this paper.
3.
No Contribution of Public Capital to Production
When αG1 = 0 instead of the baseline value of 0.1, the model’s dynamics
change dramatically (Figura 10). Most
importantly, economic growth is not
sustainable without an increase in productivity. After an initial increase due to
deficit-financed fiscal expansion, real GDP goes back toward the steady state.
Consumption and investment are negatively affected as the borrowing cost increases
more than the baseline, as shown in the higher paths of government debt and
long-term real interest rate. Because this alternative scenario does not generate
higher demand, inflation does not increase, and the current account does not worsen.
While the long-term real interest rate increases due to an increase in public debt, IL
size of the increase is lower than that in the baseline scenario. This is because of the
lack of a monetary policy response when there is no inflationary pressure, unlike in
the baseline scenario.
V. Conclusione
This paper studied the macroeconomic implications of scaling up public
investment in the Philippines. After benchmarking the Philippines relative to its
neighbors in terms of the level of public capital, quality of public infrastructure,
and public investment efficiency, the analysis used a dynamic general equilibrium
model to quantitatively assess the macroeconomic implications of raising public
investment and improving public investment efficiency.
The paper finds that the Philippines’ public infrastructure investment is lower
than its neighbors. Persistently low public investment in the Philippines has resulted
in a low public capital stock relative to other ASEAN countries. While quantitative
indicators show an uneven picture, survey-based indicators paint an unfavorable
picture of the current state of public infrastructure in the Philippines. An
outcome-based estimation of public investment efficiency suggests there is
substantial room for improvement in emerging markets, including the Philippines.
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Improving Public Infrastructure in the Philippines 181
Figura 10. Alternative Public Capital Contribution Results
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GDP = gross domestic product.
Notes: αG1 refers to the output elasticity of public capital. The x-axis shows the number of years since the start of the
simulation. T = 1 is set to the year 2016.
Fonte: Author’s calculations.
182 Asian Development Review
Scaling up public investment results in sustained growth, driven by the
particular structure of the GIMF model, in which improving public infrastructure
leads to gains in the overall productivity of the economy, which crowds in private
investment. In the baseline scenario that models the Duterte administration’s
infrastructure scale-up plan and comprehensive tax reform, the increase in public
investment results in a 9.5% cumulative increase in real GDP relative to the steady
state after 15 years. If no further tax reform takes place after the legislation that was
passed in December 2017, the same public investment infrastructure increase would
need to be financed by running higher deficits. Sustained output growth is realized
in this alternative scenario as well, but the size is smaller due to the negative effects
of higher borrowing costs from a higher level of public debt. Separately, improving
public investment efficiency has substantial additional benefits. Eliminating half
of the inefficiency would lead to an additional 2.1 percentage points in real
GDP.
With a relatively low level of public infrastructure and a fast growing young
population, addressing the large infrastructure gap is needed to raise potential
growth and reduce poverty. This paper showed that increasing public investment
spending can generate sustained output growth, and improving public investment
efficiency can bring about substantial additional benefits. It also showed that
deficit financing and tax financing will generate different outcomes, especially in
consumption, investment, and output. Given the need to ensure debt sustainability
amid the large spending needs in other priority spending areas for inclusive
growth, continued efforts to mobilize revenue will be critical, by persevering with
a comprehensive tax reform.
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