Agenda for Development

I

Vol. Xlll

No. 4

July-August1995

ISSN0115-9097 I

Fiscal Decentralization •

,=m,,,

,

EDITOR'S NOTE

,

., A,,.,. ,,,.. o,,.,,. ,.w

The Early Years of Code I pl"ementat'on 1

among others, the adoption of k_ economic

Govern men t Code of1991 which gave local governments expanded powers to raise local a,tdenactmet, tofappropriate revenzzes altd allocate them according to

Rosario G, Manasan

their needs so that they can have more say in the irn provemen t of their respectivc areas.

In our le.ad article, Dr. Rosario G.

he enactment of the Local Government Code (LGC or the Code) of 1991 represents a major shift in local governance.

It mandates the devolution to local government units (LGUs) of many functions previously discharged by central government agencies. It provides for a higher LGU share in internal revenue taxes and national wealth, It also allows LGUs greater autonomy not only in mobilizing revenue from local sources but also in allocating these resources to their various needs, Since the enactment of the LGC in 1991, significant progress has been achieved in devolving per_nnel, assets and functions from national government agencies to LGUs. At the same time, theLGU share in internal revenue taxes (most commonly referred to as the internal revenue allotment or IRA) has more than doubled relative to GNP and in real per capita terms between 1991 and '1993.

However, it cannot be overemphasized that, to a large extent, the Code provisions are enabling rather than executory.

The broader powers and responsibilities provided by the Code are meaningless unless LGUs seize the initiative and take full advantage of the opportunities it offers. Thus, it is imperative that the overall policy environment revenue generation

LGUs whichshowsthat much is yet to be done to fulfill the Code's potential Dr Manasan has shown, quite succinctly, that the intergovernmental transfers to LGUs through theinternalrewmueallotment had a substitutive,

regime.

First, while the increase

sufficient to cover the cost of devolved a mismatch of the financial resources

in the IRA (in the aggregate)

were transferred to LGUs as a result of the 1991 LGC at the micro level. Thus, the increase in the IRA share of some LGUs is not enough to finance the functions devolved to them.

Second, the IRA is a block grant.

As such, the devolved functions will have to compete with other spending priorities of lo.cal officials.

Third, as a corollary, the possibility that the higher IRA will substitute for local revenue effort cannot be discounted.

International experience as well as a priori expectation based on the economic literature on intergovernmental transfers do not provide clear guidance on this matter. or- Payc

l 0

stimulative,

clihlateofthelocaloilindustry.Thepricing becominga supply and dentand decision,has becomea battleof sentimentsas canbesee.nin thearticleson of oil, instead of

pp- 2, 3, and 4. A tall deregulation of the industry, many agree,would be the best

solution.

WHAT'S INSIDE 2 The government's dilemma: to increase or not to increase

is

functions, it canno t be denied that there is and the expenditure responsibilities that

rather than a

effect with regard to revenue,collection.

Another raging concern is the political

provides the appropriate incentives in support of greater local and efficient resource allocation at the local level.

At this point, it is not yet clear how LGUs will behave in terms of mobilizing local resources and budgeting the funds that are available to them in the new decentralized

Manasan, research fellow at PIDS, presents an analysis of the fiscal performance of

' oil prices

3 Deregulating the local oilindustry

4 The political economy of oil 6 Privatization: the World Bank perspective

7 From planned to market

8

economy: Indochina in transition Agenda for development

DEVELOPMENTRESEARCHNEWS

July-August1995

Government's dilemma: to increase

ou,put 0026 po rateen,, marginal increase in inflation (0.0196 percentage

or not to increase oil prices* hell, Caltex

B

and Petron

--

recently petitioned the the big three -- have Energy Regulatory Board for a round of increases in

oil prices averaging

P1.19.

Their reason? World crude prices are on the increase and this translates to higher operation costs for oil companies.

From $13 per barrel in February1994, price of crude increased to over $17 per barrel in April 1995 although prices have slightly dipped to $16 in May and June this year.

OPSF: shock absorber Oil is a normal commodity whose supply and demand are dictated by the market. But due to the economic

In effect, government's

point), and higher

interest (Treasury bill:domestic 0.1838 percentage ratepoint).

The larger debt and higher interest rate leads to larger interest payments in succeeding dilemma

years until principal

is repaid.

questions: one, is it in the interest of revolves around two interlinked government to allow for an oil price increase? Two, how is it going to fund

oil price increase. OPSF deficit of P7 Scenario 2: Government turns down billion is funded by printing more

the OPSF deficit?

money.

Effects on the economy: Much lower outputin GNP (-0.2592 percent), higher inflation (0.7260 percentage point), and higher nominal interest rate (Treasury bill: 0.4317 percentage point).

Monetizing debt will lead to higher supply of money in circulation which results in higher inflation. This puts upward pressure on nominal interest rate.

Government

options

Ifgovernmentallowsoilcompanies to increase oil prices as the market dictates, then, the OPSF deficit will be contained.

But the negative effects of this decision will include a higher inflation rate, a rise in family expenditures, and a likely public clamor for a rollback.

If government turns down the

Scenario

3: Government

allowsanoil

proposal for an oil price increase, it avoids public censure. But the OPSF

price increase of P0.83 per liter (on the average).Theconsolidatedpublicsector

ripples across sectors brought about by an oil price increase, oil price adjustment in the Philippines has become a political and macroeconomic exercise. It is only in dae Philippines, perhaps, that one can find an oil price stabilization fund which is part of the consolidated public sector deficit.

The Oil Price Stabilization Fund

willhaveto subsidize theoilcompanies for their losses brought about by the increase of world crude oil prices. The

deficit (CPSD) is contained but there is no buildup in OPSF. Effects on the economy: Slight

OPSF, however, is not in a position do this because it is in deficit,

contraction in GNP (-0.0245 percent) and increase in inflation (0.0598

(OPSF) is a buffer fund which keeps local prices of petroleum products stable in spite of frequent changes in the world price of crude and changes in the exchange rate. Hence, instead of raising oil prices to account for market changes, oil companies draw from, or contribute to, the OPSF to make up for the difference between domestic prices of oil and the cost of production,

usingproceedsfromprivatization, and reducing government expenditures.

to

Government must therefore look for sources to fund the deficit. This can be done through domestic borrowing, money creation, external financing,

Simulations

of the economy

Economist Celia Reyes of the Philippine Institute for Development Studies (PIDS) simulated four economic scenarios to find out which is the best path for government to take under the circumstances.

As ofla!e,the OPSF is in the red. It has a terrfi_nJ_,i,fundbalance of negative Scenario 1: Government turns down P514 million :in May 1995. If the °il price increase" OPSF deficit reaches governmen'tv¢illnotgranttheproposed P7 billion at year's end. Government round of oil price increase, the OPSF borrows from domestic sources to fund deficit will reach P4.4 billion by year's thecorrespondinghigherconsolidated •end, according to the Department of public sector deficit, Energy.

Effectsonthe economy; Thereislower

percentage point). Since tax revenues are a proportion of nominal output, there is a slight increase in total tax revenues.

Scenario 4: Government allows an oil price increase of P1.19 per liter (on the average). The OPSF will increase by P2 billion at year's end.

Effects on the economy: The larger priceincreaseleads to higher inflation (0.0915 percentage point) and a slight contraction in output (-0.0276 percent).

A larger OPSF means a lower CPSD. There will be lower domesticborrowing to finance CPSD and therefore, lower interest rate.

Summary Basedonthesimulations, therewill be a slight decline in the growth potential of the economy, w/tether the

DEVELOPMENTRESEARCHNEWS

July-August 1995

Deregulating the 1oca 1oil ind us try

MarioB. Lamberte, Jennifer

P.T. Liguton,

Vice-Preside Director for

Research Information

n a recent roundtable discussion co-sponsored by the Philippine Economic Society (PES) and the • Philippine Institute for DevelopmentStudies(PIDS),therewas strong consensus for the need to deregulate the local oil industry, Participants to the forum included representatives from government,

andifderegulationisdonenow, people will associate it with stable prices.• A major feature of the deregulation should leave the pricing and investment decisions to private firms -- both existing and new entrants.

Petronneedstobeprivatized.Forward cover on oil imports should be discontinued.

The Energy Regulatory Board Should also be abolished since

academe, labor, management and media led by Congressman Margarito Teves, Energy Secretary Francisco Viray, Energy Regulatory Board Chairman Rex Tantiongco, and PIDS

its central function would be made redundant. Its other functions may be transferred to relevant government agencies.

Dr. Diokno cautioned that the

President Ponciano Intal, Jr..

Professor Benjamin Diokno of the University of the Philippines's School of Economics presented a short paper on the prospects for deregulation,

transition period should be brief. It should not be more than six months, During the transition, the Oil Price Stabilization Fund should be kept at a minimum ( that is, at a level that would

DEVELOPMENT RESEARCH NEWS is a bimonthly publication of the PHILIPPINE INSTITDTE DEVELOPM_¢I" SI"UDIES. It highlights theFOR ftndO|gs and recommendations of VrDS _esearch projects _d _mport_atpot_ issues discussed in PIDSseminars.

According to Dr. Diokno, the current regulation of the oil industry has brought about distortions in the

allow oil firms to maintain the oil product prices within a period of two weeks to one month). The automatic •

The views and opinions published here are O_oseqf the a_al,ors and do not necesso_ ,._fl_cta_ose of PIDS.Inquiriesregardtru3 any of the studies contained in this publicatlott are

system. When the market dictates that oil prices should be increased, there are already sigamls for price controls, wage increases, hoarding and profiteering.

Intervention carries with itadditionaldistortionsincludingfiscal distortions. Hence, deregulation of the industry should be implemented at the soonestpossiblefime, preferablywithin the next twelve months since the next political elections will affect any effort to deregulate in the future. At the same time, price of crude oil is currently low

price adjustments based on a certain formula should be allowed every two weeks to discourage hoarding. Lastly, the formula-driven prices of oil products should be treated as a maximum suggested retail price.

Congressman Teves, this year's PES President and moderator of the forum, said the salient points of the forum's discussion will become inputs to certain congressional bills aimed at making the local oil industry more efficient and productive._3

w_Ico,ne.Address all correspondenceto:

proposal to increase oil prices pushes throughornot, Thisonlyshowsthatin any eventuality_ someone has to bear the cost of tt*e deficit, Table 1. Simulation results under four economic scenarios .........................................................

Policy recolnlnendation

• GNP Scenario

1

Scenario 32 Scenario4

Government should choose the scenario with the least negative impact. This would refer to scenario 3 (i.e., an increase in petroleum prices to account for the rise in crude oil prices

INFLATION

-0.0267

0.0196

-0.2592 -0.0245

0.7260 0.0598

-0.0276 0.091S ...............................................................

Ja

,

Mario C. Feranil, and Development

Director for ProjectSeroices

An drea S. Agcaoili,

Director for Operations

andFinance Roque

A. Sorioso,

Editorial

LegalConsultant

Staff

JenniferP.T. Liguton, Editor-i_TChie f Wilbert SanPedro,issue Editor Jane C. Alcantara, Corazon P. Desuasido, Genna E. Manaog and Ma. Lourdes Salcedo, ContributhzgEditors

M.

Valentine V.TolentinoandAnneP.Cleofa$, Exchange NecitaZ.Aquino, DeliaS.Romero, A. God es an d Fed erlco D. Ulzame,

The Research

Information

Galicano Circulation

Staff_ Philippine

h,sUtuteforDevelopmentStudies, NEDAsaMakati m,aa_,,g,AmorsoloSt., Makati, MetroManila, Philippines Telephone nos. 892-4059 and 893-5705; Tel_f,=no.(632)893-9589and816-1091.

Reentered second the Annual Makati Central PostctsO_flce onclass April mail 27, at 1987. subscriptionrates are PgO.OOforpritmlefirms _ndindi_i&,_t_.PSO.OOfarstadents,libraries, and academic attd research Institutions, and us$ 16.OOforforetgnsubscriber&Allrates are ind_,s_ ofmatliag and handling costs. Prices nwzy change without prior notlce.

Moreover., this willensurethat those ,who consume the petroleum products willbetheonestopayforthehigher oil prices and not the general public.O

but without buildu p of the OPSF).

An increase in oil prices should be

*Thisappeared as PIDS Executive Ma:morandum 95-04 basedona paperwrittenandpresentedbyDr.

just enough to coverthe This would result contraction of national

h, crease on July 25,1995.

J

current deficit. in the least output (GNP). ..........

"...........

Celia Reye.s, PIDS Research Fellow, in a joint Philippine Economic Society-PIDS Round Table DiscussiononThelmpactofaProposedOilPrice

DEVELOPMENTRESEARCHNEWS

OPEC:

the oil cartel raditionally, the oil industry was virtually under the control of seven large companies (the so-called seven sisters). They made-all the decisions in price and production, negotiated terms, and drilled the oilfields. In a move to

overcome this domination, oil-producing countries formed theOrganizationofPetroleumExportingCountries(OPEC) in Baghdad on September 14, 1960. Its initial members were Iran, Iraq, Kuwait, Saudi Arabia and Venezuela. The Arab emirates and other oil-producers followed suit and joined the organization.

For a decade, OPEC was sedate. Then in 1970, Muammar

July-August1995

republic took over. Iranian oilfields were closed for months.

In a series of moves, OPEC increased its prices from $12 per barrel at the beginning of 1979 to more than $25 at year's end. OPEC members in 1980 could sell a 42-gallon barrel of oil which costs 25 cents to produce for over $30.

The Gulf War in the early 1990s was the latest crisis point. The West's intervention in thwarting Saddam Hussein's claim over Kuwait was a move to maintain the political and economic status quo, and prevent crises in oil supply brought about by yet another series of political changes. Iraq was OPEC's second biggest oil producer before the Kuwait invasion. After the Gulf War, the US

IDle Politic__a

in his country by the use of production cutbacks and al-Qaddafi, threatened president shutdowns of Libya, againsttriedindividual to control oil companies, resources beginning with the weaker and independent firms.

Qaddafi's gamble was quite successful. He achieved a price increase of US 30 cents a barrel and increased the tax rate from 50 to 55 percent. Other oil-producing countries, waiting at the side, demanded and got similar concessions, By 1973, the role of oil companies has been reduced to that of technical contractors.

OPEC countries then imposed massive price increases. In October 1973, rejectingoffers of nominal increases from the then $3 a barrel price, OPEC unilaterally increased its price by 70 percent to $5.11 a barrel. Four months later, the posted price went up to $11.65, and a year later, up by another 6 percent to $12.38.

In all, it became a fourfold increase in price in a little more than two years, Many factors explain the cartel's immense success in price setting. Prior to the energy crisis of the 1970s, world market price of oil remained low, enabling oil to drive out competing energy sources and making the world overdependent on oil for its energy needs.

In addition, the higher prices were effective because OPEC countries curtailed production in accordance with the law of supply and demand (a higher price can only be

imposed an oil embargo on Iraq until such time that lraq would release Kuwaiti prisoners of war and return Kuwaiti property seized during the 1990 Iraqi invasion.

In more recent times, world crude oil prices stood at $15 per barrel in 1994. It increased to $17 in April 1995. Current price is at around $15.80 per barrel. The rise in the world price of crude oil is, once again, due to the limit on production set by OPEC. The continuing sanctions on Iraq and the embargo on Iran also partly account for this rise.

Oil is a depletable resource and it is ironic to think that although OPEC has _lely acted in its self-interest all throughout to yield the greatest economic profits for its members, it has in fact become the world's foremost husbander of a highly-priced resource.

The 1973 war between Israel and the Arab countries p EC , s Arab obtained by Oreducing the quantity galvanized members sold). to cut production in support of the war. The Arabs declared an embargo principally on the United States and the Netherlands for supporting Israel. Other nations received lower quotas than what they had previously.

Combined production fell during the fourth quarter of 1973 by over 15 percent. In many countries, the Philippines included, petroleum was rationed leading to long queues.

Output restriction continued until 1974 and 1975, even after the political crisis waned, Another political upheaval affected oil pricesin January 1979 when the Shah of Iran was overthrown and an Islamic

suddenly found themselves with huge money in the mid-seventies, its member-countries surpluses.

In 1974 alone, the combined surpluses of OPEC member-countries amounted to $70billion. OPEC earned more foreign currency than it needed and its natural action was to invest its unspent revenues. OPEC invested heav!ly in the United States, Switzerland and other financial centers, prompting the term "recycling petrodollars".

Meanwhile, buyers of oil found that they needed more foreign exchange to purchase oil. On the part of the industrialized countries, this was not a problem since they were also receiving capital inflow from OPEC countries which helped their balance of payments.

The developing

Oil _

[_

and

the

world

debt

problem

ue to OPEC's success in raising the price of oil

DEVSLOPMENTRESI=ARCHNEWS

countries were in a worse-off position. They did not receive any capital inflow and more and more of their foreign exchange went to OPEC to pay for oil.

OPEC had the money and the Third World needed the funds. The International Monetary Fund brokered at first but the task of lending money for development to the Third World ultimately fell on big international banks-particularly American banks-- which lent money invested

by OPEC countries, to the developing countries, After oil prices doubled again in 1979, the combined current account of OPEC countries rose to $111 billion in 1980. Further problems beset the Third World. The

July-August 1995

the Middle East, to the First World, to the Third World... to the First World. And so it goes.

OPSF:

worldwide recession in 1981-1983 made it harder for them to earn foreign currency by exporting goods to the industrial countries. The real rates of interest also rose dramatically making the burden of paying interest on their loans harder to bear.

This resulted in a series of near-crises in the international finance system as Argentina, Brazil and Mexico met with difficulty in meeting loan obligations, In 1991, there were some $800 billion in loans outstanding to Third World countries. Many could not repay the interest, not to say the principal, and had to resort to debt restructuring, In December 1994, Mexico experienced a debilitating financialcrisischaracterizedbyawideningcurrentaccount deficit, a chronic budget deficit, and a $120 billion external debtrepresenting31.4percentofGDP. Whenitsgovernment announced a 59 percent peso devaluation on December 20, 1994, its financial markets went into a tailspin sending ripples across the globe, For the Philippines, its foreign debt itself is $40.6 billion as of June 1995. For 1996, the Department of Budget and Management has proposed P58.5 billion of the national budget for principal debt amortization and another P69 billion for interest payment, In a roundabout way, oil made possible the Middle East boom that enticed a lot of Filipino migrant workers to the Gulf area. In turn, this exodus led to social and political problems, both here and in the countries where migrant workers went to work. On the brighter side, the money remitted by overseas contract workers helped boost the country's foreign reserves, agoodamountofwhichwentto external debt obligations.

But then again, it was oil, in the first place, which made possible this transfer of funds from

it

is

n the Philippines, the prices of oil are determined by the government.

For this purpose, there is an oil price stabilization fund or OPSF. Itis a buffer fund sourced from government taxes and administered by the Department of Energy. Its purpose is to absorb the shock of fluctuations in the world prices of oil and the exchange rate used to purchase oil.

To illustrate, oil companies contribute to the OPSF when oil prices in the world market from the OPSF. Suppose the price of oil goes up in the world market, the natural tendency for oil companies would be to jack up their domestic prices to account for the rise. Instead of passing on to consumers the additional cost of oil, the OPSF shoulders it. Now, if the world price of oil decreases, the additional earnings which oil companies suddenly realize are contributed to the OPSF. Hence, the law of supply and demand is subverted which leads to the artificially low cost of oil and oil products in the Philippines.

A negative implication of this policy is that since the OPSF is ultimately sourced from government taxes, then everybody shares the burden of the increase in oil prices. Is this fair? When one considers-that a major consumer of oil products are middle and upperclass groups owning cars, then, it is not. Government, in effect, subsidizes the gasoline intake of car owners. This observation can be validated by the worsening traffic problem. If gasoline were expensive enough, then more people would be discouraged to drive to work and instead take the bus or carpool. Hence, in a way, the OPSF is an indirect cause of the humongous traffic problem in Metro Manila.

Before any price increase is allowed by the government, the Energy Regulatory Board (ERB)--the quasi-judicial body which hears the petitions for energy increases---first evaluatesthepetitionofoilcompaniesforoilpriceincreases.

Public hearings are conducted where both petitioners and oppositionists present their arguments. Oppositionists are moved by the immediate prospects of increases in prime commodities as a result of an increase in prices of oil. Yet, somebody has to bear the cost of the price increase brought about by increases in the world market. The oil companies will not. If the OPSF pays for it and not the consumers directly, then government faces a larger deficit.

In the past, whenever the OPSF was running low, the government obligingly beefed it up. The Philippine Amusement and Gaming Corporation (PAGCOR), for _-/_'a_c 7

Economyof Oil -

what

arWhe ,ow. gh, o, t,,ey p,

.Wo. d a-k,W Privatization has

financed lending

close

programs

to

300

which

a component privatization. include Although not directlyon advocating privatization, WB supports the task indirectly through loans where provisions for improving the public enterprise sector are almost always included, according to Dr. Gerardo P. Sicat in his talk Lessortsfrom the World Bank Experience on Privatization du.ring a Pulong-Saliksikan sa PIDS session held in early August 1995.

The 1990s brought a changing outlook about the role of the state especially with the fall. of socialism in Eastern Europe and the Soviet Union.

The World Bank support to privatization includes helping governments restructure the policy environmenttomakeitmoreconducive 'to economic activity, Oftentimes this is in the form of technical assistance programs. During the early years, the WB only advised governments on what 'they can do to better manage their economy which may include privatizing government corporations_ Governments may agree, as a token, to sell losing companies basically because other efficient companiesremainunaffected.Inrecent years, though, the WB has favored the privatization of even profitable government companies.

Various

country

experiences

There are criteria for judging the success of privatization.

Did government improve its fiscalposition?

Did th.e enterprise become more efficient as a result of the sale? Did it assure the broadening of ownership Of capital?

Based on these criteria, one can say that in Africa, many privatization programs were not successful.

The problem redounds to the poor macroeconomic situation in these countries, Privatization met with more

The

World

] ': \

Perspective

Bank

" '_,_ '..'._ _";_

'

째_Z ......

success in Latin America m spite of the recent Mexican economic fiasco, Mexico, Chile and Venezuela received large proceeds from privatization which helped them reduce their external debt.

In the Philippines, privatization started late in 1986 and has since generated P128 billion. More than 400 entities, ofwhich90weregovernmentowned or controlled corporation.s (GOCCs),havebeenprivatized.

An important thing 'to remember about privatization proceeds, however, is that they should only be seen as a temporary income and may be used, among other things, to retire debtandhelprestructuretheeconomy, These proceeds are likely to be wiped out if fiscal planners are not very careful. Thus, privati.zation should just be considered as one element of fiscal policy, In countries such as Mexico and Chile, one strategy adopted so that government does not assume the liabilities of privatized companies is the creation of leeways. There are of course situations where assumption of liabilities is justified. This is like

guaranteeing debt. As a whole, though, government should not be faced with a situation where it guarantees private debt.

In general, the WB faced two major problemsintheprocessofprivatization in various countries.

One problem involves privatization proceeding as planned but suffering a reversal. Laos may be classified under this type. This problem occurs in very low income Countries where there is lack of commitment and administrative capability. A country that is not ready to privatize is not going to privatize even i_ you give it the necessary assistance.

The other problem relates to design issues.

Elements

ot privatization

Privatization should be accompanied by an understanding of the market situation, including improvementofthereg,datoryclimate, improvement in competition; and improvement in market access.

If there are transfers of monopoly privileges, government should get the corresponding gain as a result of this transfer.

In general, a good macroeconomic situation is necessary for privatization to succeed_ In conclusion, Sicat said that privatization should notbe merely seen as an economic process. It requires good decision-makers to implement privatization.

It operates under an imperfect world. Privatization is not wanted for its own sake but for what it can do to the whole economyin terms of efficiency. It is an important element in restructuring government priorities.O

DEVELOPMENTRESEARCHNEWS

From Indochina

planned

July-August 1995

to market in

/ [

economy

transition

Political

Economy...

Pag_: 5

and the national instance, contributedgovernment, P300 million P5 billion in 1990. But there had also been withdrawals from the OPSF. During the 1.992 power crisis, for one, P3 bill'ion was taken from the OPSF and contributed to the

erestroika and glastnost have shifted socialist states suchastheUSSR andthose in Indochina from planned to market economies. And the shift has not been easy.

The problem redounds to a shift in the system of national accounts consistent with the national accounting methods of capitalist countries with which the socialist states would want to have market relations, In a Pulong Saliksikall. talk in July this year, Dr. Gonzalo Jurado, senior visiting research fellow at PIDS, explained what this problem is all about SoCialist states use the material product system (MPS) while capitalist economies use the United Nations system ofnationalaccounts (SNA). The main difference between the two systems is that MPS accounts only for material objects. MPS does not account for nonmaterial production or services which it considers as "services to the

as part of employee compensation under MPS but as part of intermediate consumption of business under SNA. How does one go about with the conversion from MPS to SNA? There are several steps, namely: the reformattingofMPSbranchestotheir corresponding ISIC sectors in SNA, the creation of new sectors corresponding to the services sectors of'ISIC, and expression of planned values into current market and constant prices, Numerous problems accompany the conversion process. In Laos, for one, the statistical network is imperfect and there are only a few statistical workers and officials. In Cambodia, there is no statistical system because it was destroyed by the war. In Vietnam, however, problems are less serious because of the presence of a corps of hardworking statistical personnel,

National Power Corporation.

The latest withdrawal was the "Leung levy" (P4.7 billion).

At present, the OPSF subsidizes domestic oil prices by an average of 72 centavos per liter. The current petition of oil companies for an oil price increase aims to cover the subsidy and build up the OPSF at comfortable levels. Oil companies cannot absorb the increase m prices without passing it on to consumers because the rate of return.of the oil industry is way below the12 percent allowed for regulated industries.

Since it is the ERB which evaluates the petition of oil companies for an increase in oil prices, the bulk of the burden of making decisions on whether to increase or not to increase oil prices and by how much, falls on its shoulders.

ERB chairman Rex Tantiongco thus said fl_atwesh6uld follow the lead of South Korea and

population" rather than "services for To remedy these problems, Dr. production", in contrast, SNA accounts ]uradosuggested the following: need for both material objects and services. - to establish a statistical system that An example would be a haircut will collect and compile appropriate procured by a worker. The barber's statistical series ,:egularly; need to services would be included in the staff the statistical networks with national accounts of SNA countries but qualified personnel; and need to

Thailand which recently deregulated their oil industry with promising results and make pricing decisions more attuned automatically to market developments.t7

under MPS, it is not included because it does not directly contribute to production.

The concept of national income m MPS is thus narrower.

educate and train personnel in appropriate statistical methods.UI

R_f........

Haccourt,B ......

1, WiliiBrace ....and Jovanovich,d Ah, n Blinde¢.1985.E ............

3(1,"I ........

1995.f .....

USA:

theMexicanCrisis"inBusi,u'_sWorht,]

"0_ economy states Bulh,tin, Augustof Gulf 28, 1995,

to grow

......

this },ear"

in

y

Mm_ila

..o._sFPrimerSeries" in Philippitsc Journal, August2-7, a995.

There are other differencesbetween the two systems. For hastance, capital consumption allow ance (or depreciation of capital) is treated as part of intermediate consumption under MPS but not under SNA; expenses incurred carrying

by employees in the course of out a business are considered

,,o_,sF

out

soon,

says

Tantiongco"

in

Manila

5hmdard,

August19,1995.

Robert Paul, MicrocCOnOmh: Applicalions: u d 'rs dltdiJtqth'ArncricaiTEconomy.

Belmoi_t: Wadsworth Publishii_g, 198L Thomas,

*This article serw_s as a brief on the currcnt issue of an oil price increase in the Philippines, It traces the beginn.ings of the oil issue and situates the role

,

c.e

Na

,1

Gegr_,pl c,Apr1995

of the OPSF.

DEVELOPMENTRESEARCHNEWS

he ratification Uruguay Round

July-August1995

The Continuing Task of

of the of the

Agenda

Tariffs and Trade provides a rare opportunity for General prosperity Agreementfor the on greater economic Filipino people.

We in the Senate, however, have no illusions that a nation's initial economic conditions would solely determine whether or not it could take advantage of a great world opportunity.

Much would depend on the course a country would take after the ratification of the new trade accord. As Samuel Johnson once said: the future is pro'chased by the present.

Last year, the CountTy posted a 5.1 percent growth rate, not impressive under Asian standards but quite an achievement for a nation long considered as the "sick man" of Southeast Asia. Our economy is not out of the woods yet. We have a large trade gap, a fiscal position that needs strengthening and low savings and investments rates. And while the

were accomplished despite very high investments in public infrastructure.

It is a fact that to hold back on spending on public infrastructure and investment on human capital would sacrifice future economic growth. It is self-defeating.

There is, however, a way to finance this-- investments in a noninflationary manner.

Financingcanbeobtainedinmany ways.Tomentiontwo:bystreamlining thebureaucracyandbyreducingdelays in the implementation of government programs.

Let usnow speak of interestrates.

Reducing interest rate is an effective way of lowering the public sector deficit.

Regrettably, interest rates are back at where they were at the beginning of 1994. There are two clear repercussions of this.

economy grew at 5.1 percent last year, consider two things, First, much of that growth came from remittances of Filipino workers abroad. Second, the chilling reality is that per capita income barely changed during the last three years. Even if the country grew at 5 percent annually, it would take more than a quarter of a century to double its real per capita income. So you see, the 5 percent growth rate is only the beginning. The Filipinosrequirehigherandsustainable growth for better lives, Great journeys begin, however, with a single step. Thus, the Tenth Congress will not only continue the reforms which the Ninth Congress had begun but also place a greater emphasis on economic measures in order to come up with a complete economic and social agenda. We will continue to work so that the present economic recovery is broadened, strengthened and sustained,

One, the National Treasury has to pay a higher price for the domestic debt and two, there will be a lowering of private investments leading to a slower economic growth and rising joblessness.

These problems ca n be addressed by an effective monetary policy and a lowering of interest rates.

Let me now turn to our tariff system.

The ongoing tariff reform should be based on clear principles and the firm commitment of government to macroeconomic parameters such asinterestrates, wage_s_.- ...... and the size of the government deficit.

The President should announce the intent, rationale and timetable of the ongoing tariff reform.

The fourth important economic measure is the need to increase the productivity of Philippine labor. The rapid growth of the economy in the years ahead would depend on the acceleration of exports but this is

Sick

man no more

It is folly to believe that faster and sustained growth depends solely on legislation.Togetherwithitmustcome executive action since many key measures simply need executive and administrative action. After all, we cannot be separated in interest or divided in purpose, What lies ahead for our nation?

We have already begun the job of transforming the Philippine economy into an outward-looking one but we

for

must keep the momentum going. This we submit can be done. It is after all never safe to look into the future with the eyes of fear or hopelessness, Prescribed

economic

measures

Therearefourimportantmeasures that must be put in place to sustain economic growth.

First, the fiscal program. Second, the interest rate and theconductofmonetarypolicy.Third, the tradeandtariffpolicy.

And fourth, labor productivity, First, let us discuss the fiscal program.

Fiscal surplus can be achieved without sacrificingessential investments in public infrastructure and human capital, ThedragonsofAsiaallenjoyfiscal surpluses.

Yet their fiscal surpluses

-

DEVELOPMENTRESEARCH qEWS

Jul't-August 995

education and productivity-en_hancing trami.ng programs.

the Tenth Congress

Development* dependent on the increased competitiveness of Philippine labor productivity.

Unfortunately, our labor productivity hasbeen decliningwhfle thoseofourASEANcounterpartshave been rising. This despite the fact that increased labor productivity is an integral component of mwroving the competitiveness of Philippine export goods mthe world market,

after Congress has appropriated funds for their implementation?

Four, Congress shou.ld reform the budgetprocesssoas to ensure speedier implementation of government programs, facilitate executivelegislative coordination and institutionalize medium-term budgetmgandcapitalplam_ing.

Acase in point would be the removal of bureaucratic red tape for the 1995 General Appropriations Act. The

What government ought to do Let us discuss which we believe address the economic

m_der the present leadership will not falter in enacting laws which will address need you to that increase labor We cantheassure the Senate productivity by education of our people.

More than

economic

and training

gains

Indeed m a more competitive and dynan_icworld, prospects for economic growth are greaterbu.t the challenges a_ad risks are equally formidable.

We cannot and should not rest on past laurels.

The priority of legislation shouldstillbeeconomicbutthesecond and more important stage is to undertake measures that ensure that ecol_omic benefits can go down to the grassroots to each and every Filipino.

Social justice measures and equalizing reforms are imperative.

There are enormous tasks ahead for all of us in

three measures can effectively ills of the nation,

Interest rate policy. F.irst, we need to reduce interest rates, in order to achieve this, Congressmayphasedown the gross receipts tax on final transactions.

It is interesting to note that the reduction of the reserve requirement, a measure which does not require legislation, would have the largest impact on lowering the interest rate.

Senate initiated

Fiscal policy. Second, fiscalbalance mustbeachieved.TheroleofCongress in achieving fiscal balance without sacrificinginvestmentinhumancapital and infrastructure should be fivepronged, One, a more critical evaluation of annual budgets should be conducted, Two, legislation should be passed permanently reducing the size of the bureaucracy to effect cost reduction. It is unfair to the tax-paying public if the government relies on higher taxes but does not address the need to lower its

which would effectively make more permanent the removal of red tape through budget reform or fiscal responsibility act.

Five, Congress should consider a new tax reform package that focuses onimprovementsinthedirecttaxation system.

With the opening of the economy and the freer world environment, the Philippine tax system, has to be harmonized with the rest of the world. At the same time, the tariff system has to be reformed in line with a new world trade regime and our

spending, Three, Congress shouldreview the performance of the bureaucracy.

Why are projected taxes as promised by the Finance officials not met? Why are many projects unimplemented even

commitment to AFTA and the Uruguay Round.

Labor productivity.

The third measure that we must discuss Js the need to increase labor productivity.

This is clearly done by providing basic

the Advise of Allotment

govenm_ent.

But we are prepared to rise up to the challenge.

In end fl_g, let us remember the words of Franklin Delano Roosevelt.

Said he: "A nation, like a person, has a mfl_d. A mind that must be kept ilxformed and alert, that must know itself, that understands the hopes and needs of its neighbors and all the other nations that live within the narrowflng circle of the world."

The new h_ternational order has effectively shrunk the global ambit giving all countries greater opportunities for growth.

Higher growth, though, will not come automatically.

Under the new trade regime, a country may sfl'd<, stall or soar, dependfl_g on whatit will do or fail to do in the days ahead. Let us thus work together to ensure that the rebirth of our nation will lead us to soar to horizons heretofore unsee_.Yl

delivered Edgardo bySen,Angara GloriaM.Arroyo for Senate"s,_ed, President during the

_y,,,pos_,,,,, on Issues on Post-UruguayRoundTrade Regimeco-spo,,sored by theSenateof theRepublicof the Philippines and the Philippine lnstigute for Develol,.e,tStudies(PiDS),lunel, 1995,TheManila not_1.

I

Fiscal

Decentralization

_',='jll

...'_

2.3 percent The discrepancy of GNP (Table between 2). these two measures of fiscal

Table

1. General

government

revenues

1991-91nverage Natl

From central

Local

govt

Total

decentralization is due to the higher levels of intergovernmental transfers (IRA) in 1992-1993 which

Pesovalue0nmill_ons) Xaxrevenoe Nontaxreven_e Total

concentrated at the center, with local governments accounting only for approximately 5.8 percent of total general government revenue from 1981-1991 (Table 1). When the Code

supported the increased of LGU spending.

Taxrevenue Nontax revenue Total %distribution Taxrevenue Nontaxrevenne Total

was enacted in 1991, the expectation was such that this share of LGUs in the total general government revenue would increase. However, contrary to initial expectations, the share of LGUs in total general government revenue declined to 5.5 percent in 1992-1993 when the Code was implemented.

This occurred as the local revenue effort of LGUs deteriorated in 1992 before making a quick recovery in 1993.

The degree of fiscal decentralization, however, appears to be slightly higher if one looks at the ratio of local government expenditure to general government expenditure, LGUs accounted for 6.9 percent of generalgovernmentexpenditureorl.5 percent of GNPin 1985-1991. Then, as expected, fiscal decentralization intensified in 1992-1993 with LGU expenditure rising to 11.0 percent of general government expenditure and

To a large extent, various 1992-93 average types of taxes are assigned NaUgovt Localgovt Total exclusively to different levels Pesovalue(inmillions) of governments in the Taxrevenue Nontax revenne 219.438 32,122 10,661 4,205 230,099 36,327 Philippines.

However, there Tot_l 251,560 14,866 266,426 are instances where different RatiotoGNP(in %) Tax revenue 15.11 0.73 15.83 levels of governments are Nootaxreveoue 2.22 0.29 2.51 empowered to impose the same Total 17.33 1.01 18.34 % distribution type of tax.

Taxrevenue 95.43 4.57 100.00 The central government Noot_evenue 88.35 11,65 _00.00 levies and collects most of the Total 94.48 5.52 100.00 more revenue productive type of taxes. Tariffs on imports, the value added tax (VAT), taxes on incomes of LGUs to include products, activities individuals and corporations, excise and sectors (like agricultural products taxes on alcoholic, tobacco and sold by nonmarginal farmers and petroleum products, taxes onthegross fishermen, forest concessions and receipts of insurance companies, products when sold by the transportation contractors, and concessionairehimself, banksandother common carriers, taxes on estates, financial institutions, etc.) that used to inheritance and gifts, and the be outside the reach of local taxation. documentary stamp tax are absolutely At the same time, the Code increased restricted for central government use. the maximum allowable rates at which In addition, the central government local taxes may be levied. also imposes certain taxes (like the Moreover, the oversight franchise tax) that LGUs may responsibility of the Department of themselves levy.

Finance (DOF) over local tax ordinances On the other hand, the bulk of and schedules of fair market value of

Public Philippine

Table2.

to local

govt

sector history

General

finance in recent has been largely

government

Nominalterms (in million

NG

P)

1985-91 average 1992-93average

expenditures

LGUs

Total

176,143

13,007

189,150

270,682

33,459

304,141

6.88 11.00

100.00 100.00

1.55 230

22.53 20.94

2279

167

2446

2078

255

2334

Mobilizing

%distribution 93.12 [992-93average 89.00 1985-91average

Ratioto GNP(in 1985-91average

%) 20.98

1992-93average 18ÂŁ4 Realper capita 1985-91 average

'1992-93 average

i i

iii

ii

levels

local taxes

RatiotoGNP(ln

83,150 16,397 99,547

3,689 86,839 1,795 18,192 5,485 105,031

11.90 2.19 14_08

0.58 0.27

%)

95.30 88.26 94.24

0.84

12.47 2-45 14.93

4_70 100.00 11.74 100.00 5.76 100.00

local government taxes are derived from the real property tax (RPT) and the local business tax (LBT) although there is a plethora of other taxes and fees that LGUs are

real property was withdrawn by the Code. However, the Code, effectively reduced the assessment levels (for purposes of real property taxation) for residential land, all types of buildings

authorized to levy. The base of each of these taxes is defined by central government fiat which also sets limits (floors and ceilings) on the tax

and improvements, and all types of machinery.

The Code also modified the formulae which govern the sharing of the proceeds of various types of

rates that LGUs may impose.

The 1991 LGC expanded the tax base of

taxes (e.g., RPT, community tax, sand and gravel tax, occupation tax) among

i1|11|

i|llnu

i ii

i miLl

DEVELOPMENTRESEARCHNEWS

July-August 1995

thedifferentlevelsoflocalgovernment, Thus, taken together, the tax provisions of the 1991 LGC do not guarantee substantial increases in the revenue that LGUs can generate from local sources. The overall impact of the Code on LGUs' local source revenue will depend on the extent to which LGUs exercise their taxing powers, the changes in the statutory rates and legal tax bases, and the growth and composition of their taxbase. All these factorsvarysignificantlyfromoneLGU to the next. It is also not quite so clear how the higher levels of intergovernmental transfer affect the generation of local source revenue, LGU

externally

sourced

income

the importance of externally sourced 68.4 percent on the average in 1981incomeinthetotalreceiptsofdifferent 1991. This expanded to 73.3 percent in levels of LGUs. Provinces are largely 1992-1993. Focusing on the different dependent on nonlocal sources which levelsofgovernment, the share of taxes comprised 64 percent of their total in locally generated revenue has been income in 1981-1991 (Table 4). On the consistentlyhighestincities and lowest otherhand, externally sourced income in province in 1981-1993.

Thus, by contributed 49.1 percent of the total 1993, local taxes contributed 79.4 income of municipalities and 37.8 percent of all local source income of percent of the total income of cities in cities, 78.7 percent of that of the same period.

In all cases, the municipalities and 65.7 percent of that contribution of externally sourced of provinces (Table 6). income to the total •receipt The real property tax is the single of LGUs was magnified in 1992-1993 to 74.4 percent Table3. Revenue structure of LGUs for provinces, 57.5 percent (ratioto GNPin %) for municipalities and 54.0 1981-911992-931991 1992 1993 percent for cities, average•average OAII LGUs Moreover, theshareofIRA alone in total LGU income

A.Localsource

0.84

0.98

a.Rfrf b. others 2.ope_t+._ge+

0.35 0.22

0.34 0.34 0.31 0.37 0+39 0-21 0.24 0.53

mls ......

3. Capital

0.25 0.01

0.24 0.01

0.82 1.67

1.50 1.06 118 a.81 2,48 1.89 1.98 2.98

1.Taxrewnu_,_

Total income of all LGUs in the aggregate is equal to 1.7 percent of GNPontheaveragein1981-1991(Table 3). This amount is divided almost equally between local source and external sourcerevenues.

In 1992-1993, totalLGUincomejumpedto2.5percent of GNP. This increase is largely accounted for by the rapid growth in LGU income from external sources.

Thus, the share ofincome from external

rose from 42.3 percent in 1991 to 74.0percentin1993 in the case of provinces, from 41.7 percent to 52.7 percent in the case of municipalities and from 35.3percentto48.Tpercent in the case of cities.

sources (largely derived from the IRA and other intergovernmental transfers)

While LGU external source income rose

to total LGU receipts registered a marked increase, from 49.3 percent in the earlier period to 60.3 percentin the

consistently in 1992-1993, local revenue effortposted a minimal decline from

later period (Table 4). LGU external source income likewise doubled from 0.8 percent of GNP in 1981-1991 to 1.5 percent in 1992-1993 compared to the sluggish expansion of LGU local source

0.84 percent of GNP in 1981q991 to 0.80 percent in 1992 before making a quick recovery to 1.16 percent in 1993 (Table 3).

2.Ope,_ti_g ++ _is¢.r¢_.

3,Capital B,Extcmalsource Total(A+B)

income which increased only slightly from 0.8 percent of GNP to 1.0 percent of GNP (Table 3). Similarly, whilereal

This development is traceable to similar movements in the real •

A.Localsource 1.Taxrevenues ,.RZr b. others

per capita LGU external source income rose by 85.7 percent from an average of

property tax and operating and misceUaneous income

P95 in 1981-1991 to an average of P168 in 1992-1993, real per capita LGU local source income grew by only 12.8 percent from P98 to Pll0 (Table 5).

There is substantial variation in

of LGUs. Taxes accounted for the bulk of local source revenue.

The share of tax

Locally sourced revenues

KExte_al_o,_ Total(A+B) *AllProvinces A._cal,ou,cc X].Tax revetaues ab.Rr, r others 2.Operating&

i

ii

lUlll

i

1.16

0-26 0,02

0.07 0.01

0.05 0,01

B.Extemalsouree

0.29

0.45 0.34 0_34 0.56

Total(A+B)

0.46

0.59

0.49

0.47

0_72

0,37

0,38

0.36

0.33

0+44

0.28 0.16

0.30 025 0.25 0.35 0.14 0.15 0.13 0.15

0_12

0.16

0.09

0.08 0.09 0_08 0.09

0.23

0+46

0.60

0.84 0.61 0,68 1,01

0.30 0-21 0.12 0,09

0.45 ,0.32 0_33 0.56 0.34 0.22 0.23 0_44 0.13 0+13 0.12 0.15 0.21 0.09 0.12 0.30

0.09

0.11

0.30 0.60

0.59 0_46 0.50 0.69 1.04 0,79 0.83 1.25

eAIICities 1.Tax_e_._ues a.RPT

0.08

0.11

0.26

0_13

0.26

0.09 0.07 0.07 0.11 0_07 0.06 0.01 0.06 0.03 0.08 0.02 0.0t

A_ Local sotarce

0.15

0.22 0.02

0.15

misc. rev.

3. Capital

iilml

0.80

0.09 o.o7 0.02

0.04 0.02

0.12

0.35

0.16

0_06

0.20

0.57

CAll Municipalities

z ope_,t_g misc. rev.

3, Capital

B.Extemalsot_ree Total(A+B)

0.10

0.10

0.12

_ Paqe z2

revenue to total local source income is

ii

0_83

0.73 0.55 0_55 0.90

0.17

b. others

i

0.58

_ ...........

DEVELOPMENTRESEARCHNEW_

I

Fiscal

Decentralization

...

"_

12

II

,_',,rft- ff

July-August 1995

and from percent in 65.1 cities percent (Table 7). to 56.4

Table

6. Revenue

Tax buoyancy Table4.

Revenue

structure

1981-91

1992_93 1991

a-_rage

average

*Ai,Lc,, A. Loeal .....

_B.External

so_ee

l_Shan_from _fl taxes

50.73

1992

1993

49.27

39.68

60.32

44.07 40.26

39.11

55.93

59.74

36.58

56.31

39.77

56.136 56.45

60.89

*Allprovince,

A.Lo.,.o_o sottroe

tl_ External

36.o: 25.5931.112s._ 22.65 63.98 74.41 (_t.89 71.46 77.35

1991

39.35

70,17

42,30

6635

73.96

1992

A. Localsourc¢ B, External source

62,21 37.79

46,05 53,95

57,98 42.02

48.59 51.41

43.50 56,50

and (Table

l.Sharcfrom had taxes

32.85

48-32

35.30

47.89

48_67

A. Localsource B. Extern0l source

50.87 49_13

42.55 57_45

41.34 58.66

40.07 59.93

45.03 54.97

54,88

41.66

56.91

52.67

OAII municipallties 1.Share from nail taxes

38_45

and

indicate

alarming

66.27 69_52 77.15

35.41 37.93

40.76 30.47 39.04 45.38 31.77 25.51

mise,_v.

30,23

25_16

31,43

3. Capital

1.36

1.50

2.31

27.65

22.67

2.83

0.17

LT..,_v.n.o. 56.71 5%72 47.9853.7065.74 a. RPT b. omor,

2.o_,,, mlsc_ _v.

in

3. Capkal

4538

46_71

11.33

13_01

40,09

32_86

3_20

38_1 46.13 47.29 %67

7,56

18.46

5037

3135

33.98

7.42

1.65

14.56

0.27

73.82 42.34

77.51 36,90

71.46 41,32

75.63 40.02

79.39 33.77

31.48

40.61

30.14 35.61 45.61

OAll cities

gyrations

l"ax,_vonuo_ a. RPT

the

b o_ho_ 2. Operating

buoyancy coefficient of local source revenue of LGUs

&

m_¢._.

3. Capltal

plummeted dramatically from 1.0 in 1981-1991 to 0.5 in rising

73.33

41_91 26.50

1993

CAll provinces

wild

8). For instance,

1992 before

68.40

1992

2.Or_f,,m_

of the

LGU revenue 1993

1991

,.KPT b, others

estimates of the buoyancy coefficients 1 of locally-

l_.atltaxes OAII cities

(in %)

1981-91 1992-93 average average

l. Taxrcvenucs

In . contrast,

LGC.

generated

i Sh_,ofro,_

some

perverse (but mild) fluctuations in the local revenue effort of LGUs after

the implementation

of LGUs

eAll LGUs

The above shows

ofallLGUs

(ratio to total Income In percent)

structure

25.i8 22.19 24.47_.97 20.4_ 1.00

0.30

4.08

0_40

0.20

74.27 30_49

69.21 41,30

69.82 35,24

78_71 25,74

,Ai,,..n_ip.,it_,, 1. Tax ....... a, P,PT

to 6.7 in

_o_r_

2, Ope ruling &

1993.Thedeclineintheoverall

m_ .....

3.c_p_,_,

68.52 39.85

28,67 43_77 27.9134.5852,97 31.16

25.41

21.17

0.680-52 0-12

elasticityoflocalsourcerevenue of all LGUs in the aggregate in 1992 is traceable to the

H0wever, its importance was weakened during the period under study with its share in total LGU local source income

concomitant deterioration of the elasticity of the real property tax revenue and non-tax revenue.

Notably, LGU behavior in the area of local revenue generation has been

intergovernmental transfer is substantial.

Manasan (1995) investigated this concern by regressing per capita locally generated LGU revenue against per

unsettled by the 1991 LGC. At this point, it is not clear whether or not it

capita IRA and per capita income (as a proxy for tax base). Her results show

has already reached an equilibrium, Thus, close monitoring is called for in the coming years.

The situation

that intergovernmental transfers had a neutral effect onlocal tax performance in 1985 (results for 1990 were mixed).

efficiency (i.e., ratio of actual collections to total collectibles based on current

likewise highlights policy environment

The analysis also indicates has a negative effect on

year tax liabilities) of the RPT declined from58.9 percent in 1991 to 49.7 percent in1992.Thedeteriorationwasfrom54.1 percent to 44.3 percent in the case of provinces and municipalities combined

correct incentives to LGUs in support of local revenue mobilization, IRA's substitutive effect

"_ TableS. Revenuestructureof LGUs (realper capita in 1985 peso prices) 1981-91 1992-93 19911992 1993 a*,s_ ,_,rsR, All LGUs A. Loeal ......

97.51

110,10

B. Extemalsouree 1. Share from

95.02

168.15 122.05 132.62 203.67

natltaxes TotalIneome(A+B)

70,37 192.52

156_77 278.25

96,18 89.36

86.78 218.23

124.0) 221.98

the need to have a that provides the

There has been some concern that central government transfers _to LGUs may substitute for locally generated revenue when the allocation formula for grants does no t explicitly take the level of LGU revenue performance into account or when the amount of

130.84

188.85 334.51

1 Buoyancy

or elasticity

coefficient

is defined

as the

that IRA local tax

revenue in all levels of local governments in 1992 and 1993. While the relationship is weak for provinces (where a P1 increase in per capita IRA leads to a P0.01 reduction in per capita local tax revenue in1992q993), it is not negligible in the case of cities (where a P1 increase in per capita IRA is predicted to lead to a P0.28-P0.58 decrease in per capita local tax revenue) andmunicipalities(whereaP1 increase in per capita IRA results in a P0.07-

P0.10 decline in per capita local

tax

revenue).

the

These

results

suggest

needtoincludeamaintenance-of-effort

ratioofthepercentagecb.angeinrevenuetotheper_entage

_h_,g_ in _........ t_ b.... restx)nsiveness of government revenueIt to......... changes l_wlof_onom_a_v_ry,

0.32

29.65

major source of locally generated LGU revenue, contributing 41.9 percent of local source LGU income in 1981-1991.

dropping to 35.4 percent in 1992-1993.

Consequen fly, the real property tax to GNPratio of all LGUsin the aggregate deteriorated almost imperceptibly from 0.35 percent of GNP in 1981-1991 to 0.34 percent in 1992-1993(Table 3). This occurred as the LGUs' collection

0_32

30.12

in th_ the

factor directly and explicitly in the IRA distribution formula.

Local budgeting under the LGC In general, the 1991 LGC provided for a more liberalized environment for local budgeting.

Table

7. RPT collection All

rate (in %)

LGUs

Provinces

1983 1984 1985

59.71 54.24 46.85

58.61 50.78 41.98

Cities

60.87 58.76 53.20

1986 1987

51.26 52.77

49.59 49.53

53.36 56_74

1988 1989 1990 1991 1992

54.30 57.98 57.75 58.92 49.71

49.39 55_55 53.55 54.09 44.29

60_67 60.98 63_30 65_o6 56.41

number of supplemental budgets that LGUs can enact. The practice, in the past, of having many supplementalbudgetshasbeensaid to have resulted in sub-optimal utilization of resources since it

First, the local budget officer is devolved from the Department of Budget and Management (DBM) to local government units.

TheCodealsotransfersthereview power of the DBM over the budgets of municipalities and component cities to the provincial Sanggunian.

Although the DBM continues to review the budgets of provinces and highly urbanized cities, it no longer has the recourse to declare local budgets inoperative in cases wherethereareviolationsofprescribed budgetary requirements, Second, some of the statutory requirements that preempted the freedom of LGUs to allocate their

Fourth, the Code also strengthened the local budgeting processby creating the Local Finance Committee which is composed of the local treasurer, the local budget officer, and the local planning and development officer. This committee is empowered to determine the collectible income for each fiscalyear and to recommend tax measures to the local chief executive and the

budgets were repealed by the Code.

Specifically, it eliminates the mandatory contribution to the Philippine NationalPolice(equalto 18 percent ofLGUs' annualGeneralFund regular income) and to the hospitals operated by the Department of Health (equal to 3-5 percent of their income in the General Fund).

However, other mandatory expenditure items like the statutory reserves for calamities were increased. The Code also increased the numberofmandatorypositionsfrom7

Sanggunianin support of thebudget.

It is also mandated to recommend the levelofaggregateexpenditureaswell as expenditure ceilings for the different sectors(i.e.,economic, social and general public services) based on the approved development plan.

Fifth, the formulation of the local development plan is strengthened with the constitution of the Local Development Council (LDC).

The LDC includes, in addition to the local executive and legislative officials,

LGU expenditure was equal to 1.6 percent of GNP on the averagein 19851991(Table9).Municipalitiesaccounted for approximately 40 percent of total LGU expenditure.

The remainder was divided almost evenly between provinces and cities, with the latter having a slight edge over the former.

During this period, 41.8 percent of total LGU expenditure was spent on general public services, 33.8 percent on economic services and 20.6 percent on social services (Table 10).

LGU

to 14 in the case of provinces, from 6 to 14 in the case of cities and from 5 o 9 in the case municipalities, it likewise allows for 5 optional appointive positionsinprovincesand6incities and municipalities.

Third, the Code abolished the authority of the Department of Interior and Local Government (DILG) to review and approve

representatives from non-government organizations, Sixth, the Code reduced the

expenditure priorities vary according to the level of government.

Thus, general public services captured the lion's share of municipal government budgets while the plurality of provincial spending went to economic services.

In contrast, the expenditure of cities were more evenly distributed.

The mandated transfer of functions previously discharged by the national government agencies caused a major shift in the size and composition of LGU expenditure.

Thus, aggregateLGU

development projects that may be charged against the 20 percent development fund.

Instead, the 1991 LGC requires that this fund be spent only on projects that are included in the local development plan.

Table8.

Buoyancy

generated

A. LGUs

coefficient

of locally-

LGU revenues, 1983-1993 1983-1_0v 1992_ 19_3_

RPT 0.88 0.05 15_40 3.37 Other taxes 0.91 2.63 Taxrevenues 0.89â&#x20AC;˘ 1_04 8.64 Non-taxrevenues_ 1.01 0.55 3.48 Local source revenues 0.97 0.50 6.69 â&#x20AC;˘ Derived using regression approach _ Exdudes Derived using simple growth rate revenues from sales of assets

tended to encourage local officials to view the budget in a fragmented and myopic manner.

Thus, there was a propensity to allocate money for capital expenditures that are small in scale, highly visible, but with low real impact.

Finally, overarching the entire budget process is the Code requirement that LGUs absorb and finance devolved personnel and functions from national government agencies, primarily the Depar_nent of Health, Department of Social Welfare and Development (DSWD),andDepartmentofAgriculture (DA).

F:attern

o fLGD

expenditures

o,- Paqe ;'._

DEVELOPMENTRE ;EARCHNEWS

14

July-August 1995

I

expenditure rose from 1.9 percent of GNP in 1991 to 2.7 percent of GNP in 1993, the first year after devolution was completed (Table 9). Most of the increment in LGU expenditure in 1993 went to social services (whose budget increased by 0.5 percent of GNP) and general public services (whose budget rose by 0.3 percent of GNP).

the share of social services in total expenditure of municipalities rose substantially (by 14.3 percentage points to reach 23,.5 percent _in 1993). The share of social services in total expenditure of cities also increased(by5.1 percentagepoints to 26.2 percent) but to a lesser degree.

The increase in LGU expenditure on social services in 1993 went to health, education,

Consequently, while the share of social services in total LGU expenditure rose

housing development,

by 11.5 percentage points to 27.9 percent, that of economic services and

thatorder.

Itshouldbenotedthatthe cost of devolved health functions

general public services contracted by 10.3 percentage points and 3.7 percentage points to 25:5 and 40.8 percent, respectively (Table 10).

In all levels of local government, one finds that there was an expansion

accounted for more than half of the total cost of all devolved functions, At the same time, the cost of devolved social welfare services in 1992, although not as large, was also significant.

Thus, higher LGU

of the budget share of social services relative to the economic sectors, Consistent withthefactthatprovinces absorbed the bulk of devolved social service functions, theratiooftheirsocial

spendingonhealthandsocial welfare in 1993 is consistent with the new expenditure functions transferred to them. Meanwhile, the higher LGU expenditures on education and

service expenditure expenditure expanded

housing priority

Fiscal

Decentralization

.,. "_ ,Pl,-fl

f_"

I I

to total most (by

the

19.8 percentage points from its 1991 level to 37.6 percent in 1993). Likewise, Tablel0.Sectoraldistributionoflocal government expenditures (in%) 1985-3,991 1992-1993 1991 .... _......

Table

and community and social welfare, in

in 1993 reflect the higher that local officials assign to

impactofthedevolutionprogram on these sectors was not really that significant.

service

3329 25.52 35.87 _5.S2 _,_3 20.61 24.80 15.4319.91V.93 41_77 44.14 44.5149.3940.77

services Total social

41.17 2981

43.8733.6O 27.5_

A closer look at EGO spending on social services The previous sub-section confirms that local government expenditure on social services increased significantly as a result

services general public

20-69

17.85 20.55 37.61

of the devolution program,

Total services social

service_ General public SAIl province_ Total ...... aic

services 33.97 oAllmumcipali_, Total economic service_ 28_17 Total social servic_ 14.91 C_al p_btic services 53,64 OAllcities Total economic services 33.68 Total social servicc_ 27.32 C_n_lt,_t,lic servi_e 34.83

31,17

34.11 34.4439.9230_58 20.32 30.0918.5521.43 19.75 9.27132323S3 55.98

56.51 64.14 50.85

29.07 35.8828-4929_47 26,57

2__17 27,08 26,22

36.30 38.3837.8_3_.2_ iiii

of

local

government

1985-91 1992-931991 19921993 average average AllLGU, â&#x20AC;˘_ices 0.52 0.59 0.67 0.48 0.69 r_ ..... _c To_social _rvices 0.32 0.57 0.29 0.38 0.75 _._,,_p_b,o ,_rvices 0.65 1.02 0.83 0,93 1.09 Debtservic¢ 0.01 0.02 '0.01 0.02 0.03 Graadtotal 1.55 2.31 1.86 1.89 2.68

_

Total economic â&#x20AC;˘talLCU,

to GNP

expenditures(in %)

these sectors in the more decentralized regime since the direct

1992 1993

9. Ratio

it

should be emphasized, however, that substantial amounts were simultaneously withdrawn from the budgets of national government agencies because of thetransferoffunctionstoLGUs, Because of this, it is not enough that one makes a comparison of LGU spending levels before and after devolution to be able to

show how their overall allocation to the various

budgetary sectors has

been affected by the new decentralize d environment.

In analyzing the expenditure pattern of LGUs, it is essential that adjustments are made for thecostofdevolvedfunctions.

Table 11 presents the actual level of general government spending (including national and local government spending) in 1.991 and in 1993. Vis-a-vis these actual expenditure levels and after adjusting for the transfer of expenditure functions mandated by the devolution program, three counterfactual scenarios for 1993 are then presented.

The first provides estimates of government expenditure levels that would have maintained aggregate general government expenditure at their 1991 levels in nominal terms. The second presents estimates of the expenditure levels that would have preserved aggregate general government expenditure at their 1991 levels in real terms (i.e., adjusted for inflation). And the third provides estimates of the expenditure levels that would have sustained

aggregate

general

government

expenditure in real per capita terms (i:e., adjusted for inflation and population growth).

The analysis in Table 11 shows that the actual total general government expenditure in 1993 was not quite enough to preserve the 1991 expenditure level in real per capita terms. This same can be said for each of the major sectoral classifications with II

i

the exception of general public services and defense. The increase in general government spending on general public services was the result of the larger outlays on public administration by the local governments.

On the other hand, the

Tablen. C.n*,aSov .... tandlocalgove. .... texpendi_res b_o_ andafterdevolution (In,illlon p.o,) 1991 ACTUAL

Total

NG

LGU

P_vlnces

Munlelpalitie$Cttio

Crand totalnetofd,bt 185826.7 162397.3 23429.4 6821.3 Total economic service 73546.2 65077.1 8469.1 3000.8 Tot,_social services 52758.0 49115.63642.4 1220.7 Education 33664.4 32821.6 843.3 109_1 Health 9836.1 8850.5 985_7 194.7 Soa*'weUa_,_tc. 4864.4 4195.1 669.2 1285

9451.2 7157.2 2852.5 2616,1 878,4 1543.3 352.5 381.7 164.8 626.2 215.0 325.8

General public services Hoasing/comro.dev.

57203 146.2

44178,7 4392.7

32860.7 3248.5

11317.9 1144.2

2599,8 788.4

2997.8 209.6

Delete 1993 ACTUAL

15343.9 15343.9 Grand totalnetofdebt 209886.9 169290.740596.2 10167.017450.3 12978.9

decline in general g 0 v e r n m e n t expenditure in real per capita terms is more pro n 0 u n c e d in economic services than

Total economic services Totalsocialservices

in social services. Inboth cases, the bulk of the decrease in general g 0 v e r n m e n t

1993LEVELS THATWOULD HAVE PRESERVf:D 1991LEVELS INNOMINAL TERMS G_a_dta_e_ordelit 185826,7 156591.6 29626.5 9235.2 9581.612098,4 7555.4 Total economic services 73546.2 63919.6 3438,7 3516.8 2671.3 Totalsocialservlces 52758.0 44646.4 8111.6 3530.2 2852.1 1729,3 Education 33664.9 32821.6 843,3 109_1 _52.5 381,7 Health 9836.1 5069.5 4766.6 2471_0 1571.9 723.7

expenditure was largely due to the decline in

national go vernment spending.However, this development

further

was

aggravated

the economic

in

sectors

_,_o, Health

72543.6 61861.7

62132_1 50467.7

10411.5 11-394.0

2827.5 3865.6

3755.1 4121.7

41633.1 11681.1

So_weU_,etc

Hc_asing/comm.dev.

Gen_J public services

38715.2 2917_9 2488.9 521.0 1746.5 1331.8 6448,1 5233,0 4928.8 4057_1 871.6 112.2 482.5 3618.7 1247.2 2371.5 743.5 560,9

56031.6

37240.9

18790.7

3474,0

9573.4

3829,0 3406,7

1065.1 99Z6 2770 1067,1 5743.2

Defe,se 194501 19450.1 COt_TERF^CTUAL SCENARIOS FOR 1,3

Socialwelfare, etc. r_o_si_g/_om_d_v.

4864.4 4392.7

3506.8 3248.5

1357.5 1144.2

161_8 788.4

781.5 146.2

414.3 209.6

smallgrowthinrealterms,

Grandeconomic total net services of debt Total

8700.1 3076,0

LGU spending posted a 44 percent reduction in

2139795 84688.4

180315.2 73603.5

33664,3 11085,0

11033.2 3959.7

13931.3 4049.6

Total_cialserviees 60750.9 51410.3 9_0.5 a06S.0 3_.2 He_h 'Education

5837.6 37794.0

5488.7 971.1

2845.3 125.6

5601,3 50_8.2 50871.7 17668.5

4038.1 1563.2 186.3 3740.6 1317,5 907.8 37632.9 13238.8 3008.5 17668.5 -

1810.1 405.9

1991.3 833.3 439.6

9104.9 3219.1

this regard, provinces, ,ull

,

ii

social welfare, etc.

Housing/comnLdev_ General public _rvices Defense

11326.3 38765.1

justenough to maintain Cr_dtot_.,_tofdebt 223935.7188705.1 5230.711546.6 14579,5 Total economic services 88628.9 77028.1 3 11600.7 4144.0 4Z'_8_0 the spending levels in Total social_rvices 63577.5 53802,4 9775.1 4254.2 3437.0 Education 40568.8 39552.5 1016.2 131.5 424.8 real terms but not in real Health 11853.3 6109.2 5744.1 2977.7 1894.3 per capita terms.

Sod_lwelfa_,et¢.

5_61.9 4226.0 1635.9 195.0 94I-7 Housing/corrtm,d ev.

5293.5 3914,7 1378.8 950,1 176__ The variation in the G.... lpublicservices53238.7 39383.913854.8 3148.5 6904.4 expenditure pattern D_f_ _8a90_ 18490.6 across the different levels of government is interesting, particularly in the social and dries consistently gave education sectors. For instance, actual general high priority. These findings are rather government expenditure on education unexpected considering that most of in 1993 was 2.6 percent greater than the the LGU responsibilities in thearea of amount needed to preserve the 1991 education are responsibilities shared expenditure level in real per capita with the national government, terms.

While the actual national in sharp contrast, actual general government expenditure on education government spending on housing and was less than the level necessary to community development in 1993 was preserve the 19911evel in real per capita even lower than the 1991 level in terms, actual LGU spending on the nominal terms.

W'hile national sector was almost three times the government expenditureon this sector amountnecessarytokeepupwithboth in 1993 was less than half of its 1991 inflation and population growth. In level in nominal terms, LGU spending

in 1993 was

not enough to sustain the 1991 level in real terms.

While the national government allocation on social welfare showed a

3154.9

477.1 241,3 3632.8

spending

government allocation.

In like manner, actual general government expenditure on social welfare and other social services in 1993 was

G ..... lpubli¢services 44178.7 32681.6 2612_7 5729.5 Defense 15343.9 15343.9 11497.0 1993 LEVELS THAT WOULD HAVE PRESERVED 1991 LEVELS IN REALTERMS

899.8 168.4 6597.5 -

wherelocalgovernment

aggregate LGU outlay on housing and community development registered significant growth in real per capita terms. This is especially true in the case of cities and municipalities.

Thus, increased LGU spending was enough to offset the decline in central

real terms. Municipalities and cities were largely responsible for this

decline.

1993LEVELSTHATWOULDHAVFPRESERVED1991LEV£LSINREALPERCAPITATERMS On the other

municipalities m,,oul

wasmorethandoubled.Consequently, ,,

,,

hand,

actual general 2063.9 government expenditure 460.0 872.1 on health registered some 49913 real growth in 1993. In the 252.6 3801.9 aggregate, said growth, however, was not sufficient to compensate for changes in population.

However, while national government outlay on health in 1993 was large enough tocompensateforbothinflarion and populationgrowth, LGU spending was not even sufficient to keep up with price changes alone. It is interesting to notethatthistrendistrueforprovinces and municipalities in particular.

If one assumes that the national agency budgets in the various sectors before the devolution represent the appropriate levels, then one can say that provincial governments "underspent" on health and social _ Pale Z6

DEVELOPMENTRESEARCHNEWS

16

July-August 1995

NEDA sa Makati Building, Amorsolo St., Legaspi Village, Makati 1229, Philippine Institute for Development Studies Metro Manila, Philippines

I

l

Fiscal DecentraUzafion ...

-_ page I5

Stamp _

I

net

]

revenue

welfare in the decentralized regime.

However, one can also argue that the very essence of decentralization lies in givingLGUsthefreedomtomaketheir own spending decisions based on their assessment of what their constituents need. If the latter premise holds, then actual levels of LGU expenditure in 1993 represent the optimal levels from the LGU perspective.

At this point, it isnotasimplemattertoestablishwhich of these alternative viewpoints is the more relevant one. One can only do thatafteracloserreviewoftheexisting expenditure assignment.

If LGUs are given expenditure responsibilities with significant spillover effects (i.e., responsibilities whose benefits are not exclusively enjoyed by their constituents) then it is to be expected that LGUs will underprovide for these goods and services if there were no additional financial support from the central govemmentperhapsin the form of matching grants. If the externality is localized, costsharingamongtheLGUs that benefit from the service, rather than matching grant from the central government, maybemoreappropriate, On the other hand, LGUs should be allowed to decide on the quantity and quality of local public goods and services that _eywiU finance without interference from the center. The only caveat to this being the need to ensure that LGUs have sufficient fiscal resources to finance said functions, This brings us back to the need for a review of the IRA allocation formula towards a system that will equalize

fiscal

capacities

(i.e.,

net of expenditure

potential

needs),

Conclusion An evaluation of the trend and pattern of LGU revenue reveals that LGU revenue performance in recent history is genera_y poor. Moreover, LGUcollectionefficiencywithrespect to the real property tax deteriorated in 1992, the first year of the Code implementation, LGU revenue performance rebounded dramatically in 1993.

Clearly, LGU behavior in the area of local taxation has been unsettled by the 1991 LGC. At this point, it is not clear that an equilibriumhasbeenreachedyet.

The fluctuations that are observed in LGU revenuemobilizationintheearlyyears of the Code implementation seem to indicate that LGUs are experimenting with various alternative options of organizing and operating in this area.

This calls for close monitoring in the coming years. It also highlights the need for a policy environment that provides the right incentives to LGUs in support of improved revenue generation, In this regard, this study raises another warning signal as it documents thechangingimpactofthe IRA on local tax effort before and after the implementation of the 1991 LGC. While the IRA has a neutral effectonlocalrevenueperformancein theperiodbeforetheCodetookeffect, it substituted for local tax effort in the post-LGC regime, These results suggest the need to reexamine the IRA

allocation

formula

towards

the

inclusion of a maintenance-of-effort factor directly and explicitly in the IRA distribution formula.

On the other hand, the decline in the amount of resources that LGUs allocate to sectors that are severely affected by the devolution programis worth noting.

It is imperative for policy makers to arrive at a better understanding of the issues impinging on LGU spending decisions.

These questions primarily center on expenditure assignments and, consequently, call for a review of the functions that are designated to be LGU responsibilities.

If LGUs are given expenditure obligations that have significant spillover effects, then it is to be expected that LGUs will under-supply these goods and services unless additional financial support from the central government or other LGUs is forthcoming.

On the other hand, LGUs should be given complete discretion in deciding the quantity and quality of local public goods that they will finance.

In this case, however, it is essential toensurethatLGUshavesufficientfiscal resources to fund said functions. Earlier studies (DBM 1993; LDAP 1994) have established that the net transfer of resources (incremental IRA less cost of devolved functions) was negative in 26 out of 76 provinces and in some 20 percent of the 1500 municipalities in 1993.

This brings us back to the urgent need to restructure the IRA, this time towardsasystemthatwillequatizenet fiscal capacities (i.e., potential tax revenue net of expenditure requirements)._l