Shadow Prices of Goods and Resources in the Philippines: An Assessment by Ronald Yacat

SIIADOWPRICES OF GOODS Ar.IDRESOUR_ THE PHILIPPINES:

AN ASSESSJ_,_T

._ __ •,

._1

PHILIPPINE

INSTITUTE

AUGUST

FOR

DEVELOPMENT

1982

STUDIES

ABSTRACT

When market

imperfections are present,

for the less developed market

prices

resources

countries

do not usually

to society.

needed

in the economic

shadow

prices

evaluation

--- prices

which

summarizes

goods and resources

true valuations method

reflect

lead to proper

the existing

in the Philippines_

b) the shadow

exchange

d) the social

rate of discount

methodologies

and assumptions

Moreover,

the Philippines,

This

social

selection

the case observable

of goods and

of valuation

of projects째

would

is often

is thus

is the role of costs and benefits of projects

and

welfare.

This paper

tariffs_

indicate

An alternative

and the use of which would thus improved

including

which

some policy

rate,

estimates These

of shadow prices

include

used

implications

a) implicit

c) the shadow wage

and the shadow price in the estimation of the results

rate,

of capital.

and The

are explained_

are derived,

SHADOW PRICES OF GOODS AND RESOURCES THE PHILIPPINES: AN ASSESSMENT

ErlindaM.

A major

ciently

and freely,

this valuation.

imperfections

market

failures

externalities,

of projects

they use and produce.

If markets

observable

market

especially

are usually

prices

present

native method

social valuation

of valuation

of goods

to the society

indicate (IDC3),

elements, policies

and would

and resources째

if true costs

are to be reflected.

effi-

countries

from government

are distorted

is thus needed,

function

in part from genuine

of non-competitive

prices

is the valuation

sufficiently

--- arising

et. al., but more pervasively In such cases, market

should

in least developed

such as the existence

be the appropriate

of a project

evaluation

However,

market

themselves.

Medalla

task in the economic

of goods and resources

not

An alter-

and benefits

This is the function

of shadow pricing.

The purpose

of this paper

of goods and resources the more

recent

and

for the Philippines

rate or SER,

d) the social rate of discount

SPK, will be presented. and assumptions policy

*Research

A brief

used will

implications

accompany

Philippine

of shadow prices

In particular, of

a summary

a) implicit

rate or SWR,

and the shadow price

of capital,

note

on the methodology

each estimate. will

Moreover,

some

be derived.

Institute

for Development

tariffs,

c) the shadow wage

explanatory

of the results

Fellow,

an assessment

in the Philippines.

estimates

b) the shadow exchange

is to make

Studies.

Approaches

to Shadow Pricing

There are basically the assumption extent

regarding

proposes

between

that would prevail This

tions arise

market

other

failures,

with

The second the distortions

an optimal

of shadow

treats

remain

pricing

tions to the welfare distortions

during

The

distortionary However,

government

policies, corrective

is not enough.

Thus, The move

In any case,

to estimate

shadow

In this regard,

and

if distor-

of non-optimality.

system.

this

prices

such shadow

shadow prices.

the present

distortions

the lifetime

then becomes

of optimization

as constraints.

specified

optimum.

(1971).

of flrst-best

policies

intervention

to as first-best

approach

optimum.

of the problem

to an _attempt

a first-best

will

are purely

were

in the case of

and Taylor

the absence

approach

distortions

than the non-optimal

the essence

are referred

formally

policies

cause

be the equilibrium

(1958) and,

by Bacha

To the

pervasive

the first

should

to the first-best

can be generalized

associated

problem

prices

alone of the distortionary

be towards

approach

lead

for reasons

is itself

suspension

exchange,

is that these

would

e.g. the genuine measures

shadow

prices,

if these policy-imposed

of foreign

assumption

their removal

prices

and shadow

hinging

distortions.

are the most

is the view held by Tinbergen

pricing

implicit

should

market

to shadow pricing, of market

distortions

that the appropriate

removed. shadow

the existence

that policy-imposed

the divergence

prices

two approaches

of the project.

one of deriving

problem,

The optimization

but it forms the conceptual

as given,

with

The

the dual solu-

the existence

problem

ioe.,

is usually

framework

of the not

for shadow

pricing

rules.

and Mirrlees

Advocates

(1969) and Dasgupta,

prices so derived

are referred

sense that they represent second-best

ot this shadow pricing Marglin

procedures

and Sen (1972).

to as second-best

social costs

are Little The shadow

shadow prices

and benefits

in the

of inputs at the

optimum째

A crucial assumptions,

issue then in shadow pricing

ioeo whether

distortions

It should be noted,

however,

feasible

pricing

for shadow

are assumed

that the first-best primary

Available

data and techniques

estimate

of the SER is limited

Estimates

is related

factors

are still

to persist approach

(i.eo, labor

inadequate_

Prices

of Goods

ar not.

is not yet and capital)째

Even the first-best

to a partlal-equilibrium

of Shadow

to policy

analysis.

and Resources

in the Philippines

A project's the intermediate be tradable usually

treated

input can either inputs,

nontradable.

below

and nontradable,

as the project's

Primary

as nontradables.

mates are presented tradable

as well

be intermediate

for

factors,

Accordingly, (a) outputs

(b) foreign

or primary. output(s),

on the other

In turn, can either

hand,

the shadow price

and intermediate

exchange,

are

esti-

inputs:

capital. _/

!/The income distribution tion involves value judgement, ciently justified.

parameter is ignored since its estimawhich for the present cannot be suffi-

The most

recent

the Philippines

(and perhaps,

by Power and Sicat Power

and comprehensive

(1979).

(1971),

except

These estimates

of the methodology

and Intermediate

Tradable

and Mirrlees

will

by various Marglin

should be valued

even though

distortionary

along with

is always

an alternative

revenues

rigorous

The intuitive

are mere

proof)째

dable commodity

The shadow

Thus,

a_d

some

transfers the social

estimates

Little

that tra-

international

taxes

are pre-

or not the distortion

explanation

source

including

relative

and other

on whether

should be its border

price

studies

and Sen (1972),

at their

tariffs

The rule does not depend

and tariff

below,

in Bautista

Inputs

recommended

be eliminated.

market

are found

for 1965 done

used.

(1969) and Dasgupta,

dable, commodities

sent. z/

are presented

tariffs

for

Commodities

It is generally

prices

of shadow prices

for implicit

the only estimates)

explanation

Outputs

estimate

is that the world

or destination of funds

of commodities,

(See Warr

opportunity

(1977) for

cost of a tra-

price.

for tradable

commodities

(their

Z/It is clear that the first-best shadow prices for traded commodities should be their relative international prices. It is not so obvious, however, for the second-best case. Weckstein (1972) argues that international prices, which are essentially first-best in nature, are irrelevant second-best shadow prices. In reply, Dasgupta and Stiglitz (1974), followed by Boadway (1975), argue that international prices are the correct second-best shadow prices except when there is a government budgetary constraint. In a subseque_ paper, Warr (1977) shows that neither of the cases argued by Weckstein and Dasgupta-Boadway implies shadow pricing traded commodities differently from their relative international prices.

respective

border

prices)

of a proportional

domestic

important

between

domestic

tariffs째

Besides

acting

and border

policy

stand

both prices

Under perfect

or its derivation

competition

the same results째

are relaxed,

estimates

control,

Industrial however, whem

Promotion

recommends

homogeneity

of heterogeneity afforded

of evasion,

price

comparisons

Policies

A summary

conditions,

they

these assumptions often differ.

and significant

may be preferred째

The

in the Philippine s (IPPP) study,

the use of legal

can be approximated_ of products_

tariff

and tax rates,

due to a considerable

The argument

but is effectively

of the market

when

-- direct

tariff and tax rates.

redundancy,

by a tariff may not completely

differential

is given

direct

are apparent

from the two methodologles

Due to possibilities

then,

terms.

quality

However,

implication).

from legal

and identical

should yield

import

on policy

domestic price border price

two methodologies

factors

in themselves

tariff_

currency

in terms

prices,

as conversion

they carry

for implicit

and border

(See discussion

are in domestic

To estimate price comparison

prices,

implications.

If one lets

where

if presented

difference

i.e., the implicit between

are more meaningful

except degree

is that protection

be manifested

important

in price

in its protection

share.

of estimates

in a table appended

of implicit to Special

tariffs

for 1969 and 1974

Paper No. 2 of Bautista

and

and Power

(1979) and need not be presented

Nontradable

Commodities

Two methodologies in the literature. rule of Little nontradables valued

in shadow

The first

and Mirrleeso

fully into

method

average"

determines

(production) surplus.

tradable

conversion

paper.

(1977) shows

factors

traded

include

consumption

a one-stage major

general

and Power,

is the (1969).

in the public

The

use

and producer

In any case,

is one of determining

when theprob-

specific

will not be discussed to which

recommend

this

commodities

Little

"leaning

are

and Mirrlees,

over backwards"

in the traded category.

decomposition components

conversion

method

are then

rules are equivalent

than nontraded.

of specific

for the Philippines.

tradable

is to decompose which

on consumer

goods.

is the extent

There are no estimates nontradables

equivalent '_

for each nontradableo

rather

commodities

are suggested

(1975) and Harberger

that these

of either method

well as Bautista

The second

commodity

nontradables

What is crucial

considered

price.

factors

the effect of a unit change

pricing

The merit

the method

and primary

rule by Boadway

there are no nontradable lem of shadow

nontradables

is the '_foreign exchange

of the nontradable

Wart

pricing

Essentially,

at their international

"weighted

here째

factor.

conversion

factors

for specific

The IPPP study, however,

of nontradables and recommends

whenever

suggests

they contain

the use of the SER as a

The Shadow Price

of Foreign

In the IPPP study, how much

the marginal tection

the existing

the SER has actually

the distortion

created

equilibrium (Bacha-Taylor

diverged

of foreign

(UNIDO mehhod)

exchange

while

method).

An element

from the assumption

relates

to the fact that project advantage

various

yield

three

derives

under

considers

market

was noted째

is designed

SER under

position This

to bring

the need

intervention

failures

exchanges

in the UNIDO

assumption

pro-

the free-trade

of foreign

protection

from

One measures

the existing

of inconsistency

weighted

average

geometric

for estimating

out real

for protect-

system.

On the

is suggested

likely

in the

to be present

the assumption

but deflated

formulas

weighted

method,

of an optimal

the assumption

geometric

by what

average,

they ought

for estimating

arithmetic

on the other

of the same implicit

SER under

a weighted

different

a simple

The Bacha-Taylor

tariffs,

resulted

system is thus formulated.

The UNIDO method

system yields

price

by an optimal

implicit tariffs.

model

the other

evaluation

for estimating

These approaches SER.

edchange

of the free-trade

study to take into account

intervention

the OER which

and in the long run eliminates

other hand, modification

A model

for measuring

are presented, l/

of continuing

ion other than that required

in an LDC.

from

rate as the shadow

arising

comparative

methodologies

by the protection

social value

system

Exchange

tariffs.

average

hand,

the

intervention

the same implicit

to be in the optimal

Z/The case when there is disequilibrium (BOP) is discussed in an appendix to Special and Power (1979).

gives

Finally,

of an optimal also of

the

inter-

in the Balance of Payment Study Noo i in Bautista

vention

system

(See Special

Study

No. 1 in IPPP).

For all the three approaches, marginal

imports

either actual (i.e., Q

Q + M

is domestic

produce

production

a downward

be associated

exports.

Furthermore,

study thus recommends system

( 1.5 Q + M

though

still with

it assumes

uniform

trade

The SER estimates

Paper No.

is used째

The really

of the implicit

under

for the Philippines

of the OER as the Bacha-Taylor

vention

estimate

system.

estimates

implies

protection

would

under

The wide

not be socially

The IPPP

a second weighting ) which

2 in IPPP).

The study

whether

important

far less also

one or the

task is to be able

policy

assumption

Computatiom

are yields

'_second-best SER estimate",

the assumption

that some projects

low

to be employing

1974 data.

estimate

gap between

will

tariffs.

the alternative using

with

for exports

was not very sensitive,

value of 1.34 of the OER as the UNIDO

first-best

argues

is that it

elasticities.

1.5 Q - X

the study

where

low tariffs

tariffs

and innovates

and

supply

and exports,

system

since

and high

(See Special

to get good estimates

are imports

imports

limitations,

system

in the SER estimate

for imports

as proxies

for exportables,

the former weighting

the latter

using

or total domestic

Q - X and

to use are the

suggest

with high

notes that the SER estimate

calculated

with

bias

using

assumptions

other weighting

and

The problem

studies

and exports

for importables

naturally

stringent

levels of imports

respectively). will

and exports.

the ideal weights

1o32

and 1.16 of the OER as the of an eventual

the first-best viable

profitable

at UNIDO under

optimal

inter-

and second-best shadow

prices

the optimal

trade

under

regime.

Thus, a careful

could be finished However,

choice between

without

the study notes

cost of starting

costs,

optimal

prises whose vested

interest

adoption

of the optimal

study therefore

intervention

may eventually

intervention

recommends

between

Thus, using involves stand

system will

If proJectm

be less critical.

is lack of symmetry

an enterprise.

than the first-best

required.

the choice would

that there

and ending

them is

the

an SER higher

a risk that enterin the way of the be started.

the use of the first-best

The

SER in project

evaluation.

The Social Opportunity

The shadow Market wages opportunity

price of labor

for skilled costs,

The process identifying

of estimating

the consequences

use _isewhereo

cost.

cost or a benefit and equity.

is estimated are deemed for which

to sufficiently

is judged

the shadow wage

the use of labor

Second,

only for unskilled

of transfering

The foregone

there is an increased

growth

labor

the market

In the first instance,

opportunity

Cost of Labor

output

thus constitutes

This constitutes

one of employment.

prevents

could

employment,

either be a

of the objectives

the indirect

its

the direct

in project

which

or both from the standpoint

competitive.

to project

by the project

involved

reflect

rate is mainly

labor

due to higher wage

consumption

fairly

category.

opportunity

of cost.

The complete

formula

SWR

for the SWR used in the study L z _

-(l where

( s - sw ) ( w - z ) (SPS - d)

-s) (w-

marginal

urban labor

urban employment

economy

the worker's

market

SPS

the shadow

price

the income

distribution

products

additional foregoing suggest

output

saving

wage

in agriculture

rate

saving

rate

employment

of saving parameter L z _

, gives

labor by the project is to induce

in agriculture.

to be the number

force

cost of employing project

z) (_-

of labor

The first term in the formula, opportunity

is given by _/

L _

the direct since

rural-urban

migration,

is what migration

of rural migrants

the impact

per additional

thus

theorie job created

in the city.

The second

term,

the cost of increased assumed

( s - sw ) ( w - z) ( SPS -- d ) consumption

to save less than average

Finally,

the last

due to decreased income

saving

, Indicates (workers are

earners).

term of tile expression

is the benefit

arising

!/The indirect cost of the disutility of increased effort called for in the new job is ignored, following the view that people want or should want productive employment rather than enforced idleness.

from increased

consumption

the low-income

group.

than unity,

is placed

of the unskilled

A premium, on costs

indicated

and benefits

workers

who belongs

by how much it is greater accruing

to low-income

group.

There is thus, in using simultaneous

consideration

SPS

be estimated

should

IPPP and is summarized the parameter requires

value

the

SWR

of growth

in project and equity

is dealt with

below.

evaluation,

objectives.

in Special

There has been no attempt

which

for the present,

How

Paper No. 3 in to estimate

and it will not be done in the paper째

judgement,

Its estimation

cannot be adequately

rationalized.

Results

of the IPPP study

for the

SWR

esti_te

are summarized

in the table below.

Shadow wage rate estimates

for the Philippines

Year

z (per day)

Effective minimum daily wage rate, w

SWR

SWR w

1969

3.26

6.60

5.10

.77

1974

5.39

8.80

7.58

째86

1977

9째28

16.84

13o73

.81

The Social

Let

i ip

Rate of Discount

represent

and the Shadow

the social

, the private

Price

rate of discount

of Capital

and

qp,

the private

q ,

the marginal

Sen (1967) argues savings

decision,

a co_on

concern

level of saving An additional resulting surplus qp _q째 price

that when

for the future and

i _ ipo

distortion

i _ q,

of capital,

SPK,

placed

although

resulting

if the capital

ip <._q.

market

on investment

over

employed

out of alternative

implies

paradox.

is imperfect,

if there

is labor

wage exceeding

as will be seen in the formulas given below,

each

isolation

Furthermore,

by a market

in their

in a sub-optimal

is Sen's well-known

(as indicated

that cppital

easily derived

This

act independently

to "free-ride"

generation,

given by

Thus,

entirely

of capital

individuals

is created

and wage dualism

Assuming

product

each has a tendency

in a wedge

is a premium

rate of return

that

SWR),

for the shadow

SPK _ i,

ioe.,

there

consumption.

in the investment

investment,

the formula

considered for

SPK

comes is

SPK

(1-s)q

1 - sq by solving

for the present

value

per unit value of investment

in estimating representing

an upper

the Keynes-Ramsey

An optic11

(See Special

rule which

the other assumes

path

stream

Paper

the IPPP study uses

limit,

consumption

of the future

No. 4 in IPPP)o

two methodologies,

a lower

an optimal

implies

of consumption

limit. savings

equal marginal

one

The first uses program.

utility

consumption

for all time periods.

where

is assumed_

growth.

this is considered

The second methodology van der Tan (1975)_ using with

leads

to the formula

q - n l+n

is population

of consumption

This

Since

the upper

used

limit

savings

for

of elasticity

to changes

program

is the one suggested

the concept

respect

an optimal

by Squire and

of marginal

in per capita

utility

consumption.

This gives the formula,

where

ffi gh

is the rate of growth

is the elasticity capita

The problem necessitating

of per capita

of marginal

consumption;

utility

with

and

respect

to per

consumption.

in the Squire making

and van der Tan approach

arbitrary

assumptions

is estimating

regardingthe

form of utility

function째

The IPPP study yields

empirical

estimates

9 to 12 percent

using the methodologies_

the other hand,

ranges

Some Policy

Implications

The i_licit factors

between

implications

from

1.84

of the Wedge

ranging of

from

SPK,

2.82째

Between

estimates,

aside

domestic

and border

prices,

used to estimate

The estimate

tariff

when

Market

and Shadow

from representing have

the effective

important

Prices

conversion policy

rate of protection

(EPR)

and the SER.

Results revealing

of the IPPP study

show a highly

highly

protected

inefficient

(even penalized)

efficient

industries

other hand, the estimate implies

a general

The first-best in the process should

remedy

of moving

whether

tion is required. will

increase

tariff

compensation

can be quantified be improved째 welfare.

The a subsidy source we

towards

with

Care should

SWR

higher

However,

reallocation

This

costs.

A question compensa-

tariff compensation

welfare.

could be correctly

some degree

level

identified

of tariff

of confidence,

tariff compensation

therefore

be taken

could

regarding

these

to employment

be given.

political

should hold off recommendation

_/For

example,

mamy

bargaining

position

to increase

wage

constraints. _/

decrease

indicates

Thus,

that

is the perhaps,

for the present

and

goalo

feel that labor could wages.

would

considerations.

The problem

of such subsidy

is the ultimate

compensation

potentially

of 19 percent

and other

for

then welfare

of the market

uniformity

On the

the process

some tariff

of 81 percent

Z/Tariff

SER.

The Philippines

estimate

of financing

protected

than the 0ER.

upon whether

(2) the opti_um

Otherwise,

to the

the transition,

depends

industries and

regards

this direction째

to alleviate

The answer

or decrease

and lightly

is tariff reduction. _/

or not during

If (i) eligible

with

EPR structure,

on exports째

take place gradually

thus remains

industries

was significantly

penalty

uneven

use this subsidy

as a

just urge the use of the SWR in project

Finally, ranging

we come to the estimate

of the SPK,

1o84

a very

from

of taxing obviously,

2.82

the use of capital too bold

is the implicit

sub-optimal Denying

SPK

assumption

directly,

savings

must

and unity

radical

182

SPK

estimate

recommendation

percent.

arises

This

from 3 sources.

that the government

is unable

fiscal policies.

therefore

is,

means, would

bring

the elimination

of the assumption

(i.e., making

qp _ q)

The problem

that the government

(i.e., reducing down

of labor

SPK

surplus

level. can enforce

the gap between the

First

to raise

be faced at the project

and accepting

saving program

ip) by more direct

from

e.g., through

this assumption

an optimal

implies

The

to suggest.

The wedge between

savings

evaluation.

i 1.84.

and wage

and Second,

dualism

7/ The value of

SPK

mero population market

is unacceptable capital

(i.e.,

ip = qp).

Im_pllcations on Need for Further

research.

points

The first is with

7--/Theseestimates

down

making

the

SPK

1.3.-

to unity

if we assume

i = ip)

and the capital

However,

is unrealistic째

by the IPPP

The above discussion

bring

brought

(i.e., finally

and the latter

recommended

further

can be further

growth

is perfect

would

the former Thus,

study is reduced

assumption

the user 30

tax on

percent.

Research

to basically

regards

two areas

to getting more

are all taken from

for further

recent

the IPPP study.

estimates

of shadow which used

prices.

1977 data).

when necessary_ on shadow prices Wright

The data base used was for 1974

recent

The second developments

still be the private of both

For example, discount

rate of discount. SPK

and

with

in the theoretical

into the estimates째

(1980) argue that the proper

the estimates

is concerned

(except

SWR.

rate

for

SWR

incorporating, literature

Warr and to use should

This has implications

REFERENCES

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Boadway, R. "Beneflt-Cost Shadow Pricing in Open Economics: An Alternative Approach," Journal of Political Econom[, 83 (April 1975): 419-30. Dasgupta, Po, Margling, S., and Sen, A.K. Guideline Evaluation. New York: United Nations, 1972.

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Dasgupta, P. and Stiglltz, J.E. "Be_fit-Cost Analysis and Trade Policies," Journal of Political Econ0m_, 82 (Janua_tFebruary 1974): 143-52. Harberger, A.C. "Three Basic Postulates for Applied Welfare Economics: An Interpretive Essay," Journal of Economic Literature, 9 (September 1969): 785-97. Little,

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