emerging markets

Succeeding Aquino

Political succession is the key to long-term economic growth.

The Philippines has been hailed as a rising star among emerging markets in 2013, but sustaining this strong performance will require a good succession plan for the Aquino presidency. Political succession as it turns out has been a crucial driver of long-term economic growth among emerging economies over the past fifty years.

A study conducted by Tim Kelsall for the Overseas Development Institute of Britain comparing the growth experiences of countries in the rapidly growing regions of Southeast Asia and sub-Saharan Africa has found that,

Contrary to currently fashionable ideas about ‘inclusive institutions’ and ‘golden threads’, (we find) that crucial to combining succession with growth is the embedding of policy-making in strong institutions of one of two types: 1) a dominant party with a tradition of consensual decision-making and leadership succession, or 2) a strong, organic bureaucracy, effectively insulated from changes in political leadership.

Sub-Saharan Africa, which today is the fastest growing region in the world, did experience respectable growth rates in the 1960s and 1970s. What prevented this region from sustaining its economic performance in the long-run was the failure of many countries to manage political succession well.

The same could be said of the Philippines. From the 1950s to the 1970s, the country experienced solid economic growth rates averaging between 4.9 to 6.4 per cent (see table below). Of course this was still well below the growth of Malaysia or Singapore, but it was respectable, nonetheless.

Source: NSCB

The 1980s spelled the end of this sustained growth as the Marcos regime, which had been in power since 1964 collapsed. The upheaval began with an international debt crisis and the assassination of Senator Beningo Aquino, Jr in 1983. “Ninoy” as he is popularly known was returning from exile in the United States where he was granted furlough by the regime to undergo heart surgery, after spending close to 8 years in prison. The then leader of the opposition was hoping to convince President Marcos to accept a power-sharing deal that would allow for a smoother transition to democracy.

Unfortunately, due to the ill-health of the former dictator (he was not totally in command of the situation), the conciliatory offer was not taken. Instead, the death of Senator Aquino led to massive street demonstrations and the eventual fall of the Marcos regime. They say that authoritarian governments offer a tradeoff: higher economic growth, in exchange for a higher risk of economic collapse when they fail to manage succession smoothly, and that is exactly what happened.

The 1980s saw a diminution of growth to 1.8 per cent. This was lower than the population growth rate, meaning per capita incomes retreated during this decade. The transition from Ferdinand Marcos to Corazon Aquino was marked by a series of coups, natural disasters and a power crisis. It is clear from the chart above that the Philippines never fully recovered from the trauma of this fall until the 2000s when growth averaged 4.8 per cent, roughly where it was in the 1960s.

Of course, the political transition was not the only factor that influenced economic growth during this period. The country was also making a transition away from protectionist industrial policy towards a more liberal economic position. The former had played into the hands of crony capitalists under the Marcos regime. Much of the debt that was accumulated during this time was illegally siphoned off. That was economically unsustainable.

Political economists Emmanuel De Dios of the UP School of Economics and Jeffrey Williamson of Harvard took a candid look at the possible factors that could have been responsible for us deviating from our upward path since the 1980s. They list the following as possible candidates:

  • political instability at a critical time in the 1980s
  • a subsequent failure to exploit the move of Japanese manufacturing FDI [foreign direct investments] into the region
  • an institutional weakness benign in the pre-1982 past but made more powerful since
  • some liberal policy package that penalized manufacturing when it was already on the ropes
  • emigration surge in the 1980s that stripped the work force of industrial skills
  • some massive Dutch Disease created by subsequent huge emigrant remittances.

They conclude that no single factor determined the outcome, but that all of them may have come together to create a ‘perfect de-industrializing storm’. I tend to agree with their findings although, the originating event is clearly the political instability that occurred as the dictatorship was in its death throes. The fact that Marcos or his party did not have a succession plan to manage a transition locked the country into a path of low growth in the subsequent decades.

Whatever the cause or causes of this, the authors acknowledge that the resulting pattern of growth has been less than ideal:

The path followed has led to a new stable equilibrium where a largely liberalized trade in goods coexists with a recurrent current account surplus built on remittances and strong (skill‐intensive) service‐sector exports. The peso is under steady pressure to rise in real terms, which leaves little room for (lower‐ skill) manufacturing to compete and expand. A considerable rise in the investment rate—still low by East Asian standards—would relieve the current account pressure for real appreciation and create more jobs. But the low investment rate may be part of an equilibrium where capital requirements are low simply because a significant share of the urban labor force is already abroad. [emphasis added]

In the first half of the current Aquino presidency, growth has averaged 5.8 per cent, close to where it was in the 1970s. Severe weather and economic conditions globally are not expected to knock it off its current path. As noted above, the trajectory is due to a combination of income flows from abroad and investments in the modern services sector. This has led to the criticism that it is not broad based.

A number of factors however seem to be lining up that could spell an end to this current “equilibrium”. The first is the slow but gradual demographic transition which could lead to an “economic sweet spot” where labour demand exceeds supply. A debate among technocrats is currently underway as to when exactly we will reach this tipping point. Central bank officials predict this could be as soon as 2016, while the more conservative economic development agency estimates for this to happen in the 2020s. I foreshadowed this debate in a post from two years ago.

The second factor is the gradual build-up of foreign reserves in excess of our external obligations, which is driving up the peso and convincing monetary and fiscal officials to consider setting up a sovereign wealth fund to address the investment gap that is hindering job creation. I have been advocating for this wealth fund as early as 2010.

The third factor is the “systemic vulnerability” from external threats to our national sovereignty and security, particularly from China, which could motivate the development of a national agenda towards building a better, stronger economy, to face these challenges from abroad. The same sense of vulnerability from both external and internal threats was what motivated Japan, Korea, Taiwan, Singapore and Malaysia to forge a national developmental agenda.

The key to all of these factors in producing the desired outcome is the ability of our political system to fashion a solid policy making capability from one of two sources: either through stronger political parties or a professional economic bureaucracy insulated from political interference. The continuity of a sound, stable policy making capacity with the ability to set the national agenda allows for considered, adaptive economic policies despite a number of political successions. This is the crucial element that would ensure sustained, rapid growth in the long-run.

Some further reading:

  1. The new Philippine political architecture: a blueprint for strengthening political parties.
  2. The national development project: Renovating the bureaucracy

 

Learned Optimism

Reality checks are always needed by over-confident governments.

Martin Seligman the founder of positive psychology uncovered a pattern of behavior that he believes is responsible for greater resilience and happiness among born optimists. Whenever something good happens to the subject, that person will often attribute it to him- or herself, will tend to view the outcome as something that was within his or her control, and will regard the event as part of an ongoing streak of success.

The reverse happens when something bad happens. The subject will explain it as resulting from a specific, temporary event, and won’t regard it as part of an ongoing chain of similar defeats. This way of explaining things allows individuals to persist when others would have given up and allows them to remain confident in their abilities despite facing rejection or failure.

There are advantages to having such a positive mental attitude. CEO’s take their companies to new heights, salespeople persist despite facing rejection and eventually make their quota, and athletes remain motivated to train despite facing physical and mental challenges.

Filipinos seem to be a very optimistic lot. They tend to report higher levels of life satisfaction in surveys, higher than their income per capita warrants. Regardless of how terrible the past year might have been, they will often express hope and hold a view that things will be better in the coming one. The tagline, ‘It’s more fun in the Philippines’ seems to express this innate optimism.

Such a positive view becomes quite useful for the government which will often claim credit for successes that come as a result of good fortune and blame other factors outside its control whenever things turn sour. They say every cloud has a silver lining. Despite the economic storm clouds that engulf the nation, there are many positives that may be gleaned.

The business community remains quite bullish despite the slowdown in the pace of the economy last year. The flipside of weaker growth is lower inflation, which is providing the Bangko Sentral with enough elbow room to maneuver. The expected easing of interest rates is already fuelling a spike in the local bourse.

Expect the government to claim credit for engineering this by not spending the allotted budget last year. The contraction in fiscal spending allowing for policy space for monetary authorities will be spun as a stroke of genius on the part of this government despite the fact that it was unplanned.

Similarly as our exports decline owing to weaker demand from a troubled Europe and North America, as legislative proposals in the United States threaten our budding business process outsourcing industry, and as the Iran nuclear standoff dampens tourism because of higher fuel costs, expect the government to fall back on consumer-led growth propped up by overseas remittances.

Indeed as investors seek to put their money in developing countries with internally driven domestic economies, the Philippines has been deemed ‘the economy to watch in 2012’ having weaned itself off the need to propel itself through exports or direct foreign investments, unlike China which is still managing that transition.

You can see this when you visit places like Subic Bay Freeport as I have during a recent trip. In its efforts to stamp out illegal smuggling outside of the Freeport of liquor and automobiles entering the port duty free for repackaging or re-assembly and shipping to the rest of ASEAN, the government has resorted to taxing everything that has gone in and given rebates to products moving out of the port. As a result, bottling and car assembling activities have left.

The ACER laptop plant, the main operator in the Taiwan Industrial Estate, closed shop and moved to Mexico, while Federal Express relocated its logistics hub to Mainland China. It was the main user of the airport which is now open only to chartered flights as international and domestic flights have been re-routed to the Diosdado Macapagal International Airport due to low traffic volumes. Similarly the port is below its capacity owing to the fact that most shipments still go through Manila.

Only a few positive stories remain like the Japanese pinewood fabricating plant that I saw which ships in timber from New Zealand and re-exports them as processed wood to Japan (which has a ban on logging), the Korean shipbuilder Hanjin (shipbuilding being the only heavy industry left apart from oil refining which could I am told suffer a similar fate as the bottling and car assembling), and the dock where Brazilian ships split up their cargo of iron ore into smaller vessels that then deliver these to China. As a result of the thinning industrial base, the industrial estates barely break even.

The only thriving and growing sectors seem to be in hospitality, retail and healthcare. As a source of mine who now serves in a sensitive post in Subic Bay and I reflected on this situation, we pondered how much more output a worker in the shipbuilding industry makes and earns for the country as opposed to a staff member at an espresso bar where we had convened. This is why manufacturing is much preferred as an engine of growth compared to services.

But it seems the government is no longer in the habit of picking winners. It is more focused on bringing erring justices and former presidents to trial, which brings me back to the topic at hand, of learned optimism. Despite the biological advantages of being an optimist (it is related to longer life and happiness), there are still some evolutionary reasons why pessimism as a trait still remains.

It is often the role of pessimists to protect their tribe from irrational exuberance. CEOs without the restraints of prudent accountants and risk managers could run their companies into the ground with grand visions and plans. Rogue traders with unbridled confidence in their own abilities could bankrupt centuries’ old institutions. Governments run by wide-eyed idealists could implement unrealistic policies ill-suited for local conditions.

This is perhaps one of the dangers facing this young administration as it seeks to work out its priorities in the coming year.

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