POLICY RESEARCH WORKING PAPER 1271 How can the governments in Measuring the Effect Eastern European and of External Shocks and the developing countries reduce Policy Response to Them their vulnerability to such P olicy Response to Thnem sok?aeprpit shocks? What are appropriate policy responses? Here is a Empirical Methodology Applied metod for measuig te to the Philippines effect of external shoclks on to the Philippines the current accourt, applied to the Philippines. F. Desmond McCarthy J. Peter Neary Giovanni Zanalda The World Bank Office of the Vice President Development Eoononiis March 1994 POLICY RESEARCH WORKING PAPER 1271 Summary findings Economies benefit from international trade, but joining First, the investments were poorly conceived, were the world market also exposes them to external shocks. mismanaged, failed to produce appropriate returns, and How can the governments in Eastern European and became a burden on the state. One large nuclear power developing rountries reduce their vulnerability to such plant has yet to yield a return. shocks? What are appropriate policy responses? Second, with so many external resources available, the McCarthy, Neary, and Zanalda examine how external government ignored the need for meaningful structural shocks (such as commodity price changes, variations in reform, especially in trade and public sector finance. global demand, and fluctuating interest) affect economic Inefficient allocation of public resources and performance, and how those effects are mitigated by the distortionary trade policies can absorb more than all the right policy responscs at the right time. gains from favorable shocks. They introduce a methodology for measuring the When external condit.ons improved in the mid-1980s, effect on current account of external shocks and apply it the Philippines could not take advantage of them because for the Philippines. They rationalize balance of payments of its heavy external debt and its cumbersome trade responses to external shocks and domestic policies in a regime. Had authorities introduced structural reform theoretical model of a small open economy. (liberalizing trade, strengthening public finance, and Did the Philippines choose the appropriate policies freezing up factor markets), the economy could have when faced with balance of payments disequilibrium? more easily absorbed the impact of unfavorable shocks. Among comparable Asian countries, the Philippines in In 1991, the IMF gave the Philippines a stand-by 1970 enjoyed a relatively high per capita income that has credit. Authorities are now addressing some structural since failed to keep pace. Why? problems by liberalizing the exchange rate, removing Adverse shocks did not help, but other countries in the import tariffs, and restructuring the public sector, region experienced similar shocks and performed better. including the Central Bank. Perhaps this will allow more The Philippines relieci heavily on external flows, which sustainable growth and an economy that can more fueled an investment boom. Given low real interest rates readily absorb external shocks. at the time, this seemed a reasonable approach - but there were two flaws to it. This paper - a product of the Office of the Vice President, Development Economics - is part of a larger effort in the Bank to analyze external shocks, policy response, and economic performance. The study was funded by the Bank's Research Support Budget under the research project "Economic Shocks and the Global Environment" (RPO 677-75). Copies of this paper are available free from the World Bank, 1818 H Street NW, Washington, DC 20433. Please contact Mila Divino, room S9-049, extension 33739 (47 pages). March 1994. The Policy Research WorDnng Paper Serias dissemitnates the fndingS of work in progres to encourage the exctange of ider about development issues. An objective of the series is to get theflindings outaquickly, even if the presentations are ess than fully polished. The papers ea"r the nares of the autbors and sbould be used and c-ited accordingly. The findings, interpretations, and conclusions are the authors' oum and sbould not be attributed to the World Bank, its Executive Board of Directors, or any of its member countries. Produced by the Policy Research Dissemination Center (Not to be quoted without author's permission) Comments Welcome Measuring the Effect of External Shocks and the Polic Response to Them Empirical Methodology Applied to the Philippines F. Desmond McCarthy, World Bank J. Peter Neary, University College, Dublin Giovanni Zanalda, World Bank This work was supported by Research Grant RPO 677-75 of the World Bank. TABLE OF CONTErM Par No. 1. INTRODUCrION .................................... 1 2. THEOREICAL BACKGROUND ............. . ................ 2 Genea lConsidratons .... ............................. 2 A I'heoificalFramnework ........ ......... . . . *......... ... 3 Emnipiric Calcuton .............. ...... ........... 6 3. APPUCAIION TO THE PHIPPDES . ................. ....... 10 ExtermalShocks ............. 10 Decomposition of theShocks.... ll Performance Mesures ................... 13 4. POUCY INSTRUN'lS ............... . . . . 16 3. POSTSCRIFT ................................. 19 BIBUOGRAPHY ....... 21 APPENDIX I External Shocks and Performance Measures: Genemal Methodology APPENDIX II External Shocks and Performance Measures: Methodology Applied to Specific Trade Categories Lst of Tables Table 1: Coefficients of Equation 3 Table 2: Philippines: Extenal Shocks and Policy Performance Measures Table 3: Philippines: Se'ected Economic Indicators Table 4: Philippines: Main Events and Policy Measures Table 5: Philippines: Coconut Oil Export Effects 1. INTRODUCTION The economic literature Is replete with theories that seek to account for various growth and development experiences across counties. In much of this literature there is discussion of the role of external shocks and In particular how much of a countyl's economic performance may be attributed to them and to what extent such effects dominate policy efforts. Corden, In Little et aL (1993) studied a sample of 18 countries during the period 1973-88 and sought to understand the role played by a wide variety of factors In accounting for economic performance during this period. Among the factors considered were external shocks. Their analysissuggested'that the magnitude of the shocks, per se, was not as critical as the timeliness and form of policy response to them. Rodrik (1993) reviewed trade and industrial policy reform during the decade of the eighties and concludes: "public enterprise, industrial promotion, and trade protection were out; privatizatlon, lndustrlalderegulation, and free trade were In." He also indicated that "we lack a good understanding of how and why certain configurations of economic policy render the economy more resilient to external shocks than others." It Is well established that countries gain from trade. However, integration in the world market also exposes countries to external shocks. Govermments Ia developing and Eastern European countries are becoming increasingly aware of the need to face this problem. One of the main issues will be the reduction of vulnerability to such shocks and what the appropriate policy response should be. - 2 - This paper seeks to provide a modest contribution to this debate by examining the role of external shocks. It first provides a broad outline of the theoretical model which is fully articulated in Neary (1993). A methodology for computing external shocks is then introduced and this is then applied to the case of the Philippines. Various perfonnance measures of the responses are given together with measures of the assodated policy variables adopted. It seeks to extend earlier work by Balassa (1981) and more recendy by McCarthy and Dhareshwar (1992). 2. THEORETICAL BACKGROUND General Consideraions The issue of what constitutes an economic shock is debatable. In general terms it can be defined as some event or change in behavior that is generally accepted as being outside the *normal course of events. From the pepective of the economic policy maker they are exogenous. For instance there is general agreement that the sharp increases in oil prices which occurred in 1973 and again in 1979/80 were indeed shocks. However there were many other sharp movements that can be viewed as shocks, such as commodity price changes in the early eighties together with significant variations in global demand during the eighties, large interest rate and exchange rate fluctuations in that decade. Most natural disasters and wars can also be classified as shocks. -3 - A Theoretical Framework The balance of payments response to external shocks and domestic poLies may be rationalized in terms of a theoretical model of a small open economy. The model draws on existing literature on the theory of distortions and welfare, and in particular on its applications to the "Dutch Disease." However, it attempts to make this literature more relevant to a policy-making context in which the economy responds asymmetrically to favorable and unfavorable shocks; in which current shocks cannot be identified as either permanent or temporary; and in which volatility of the extemal environment is as much a problem as the magnitude of individual shocks. I The broad outlines of the model are as follows (details are given in a companion paper (Neary, 1993)). The model is a two-period one, with the convention toughout that lower-case and upper-case variables refer to the first and second period respectively, while bold variables refer to both periods together. Thus, in the case of consumer prices, p and P are the vectors of current and future prices, respectively, and p is the vector of prices in both periods, p' = (p', P). The future price vector P is expressed in present value terms, with future spot prices denoted by p2. Hence, P equals 5p2, where a is the discount factor, equal to the inverse of one plus the world interest rate: 6 = (1 +r)-'. Assuming that domestic agents can borrow or lend at the world interest rate, the outcome of utility maimization by the aggregate consumer can be characterized in terms of a twoperiod 1i xnditure function, e(p,u), where u is the conisumer's lifetime udlity. The value of GNP in -4- each period is given by a CNP function, which has as its arguments domestic consumer prices, p, the world price and the constrained sales level of an export good not consumed at home, q and x, and the level of employment, e. Over the two periods, investment I is chosen optimally to maximize the present value of productioi, denoted by a two-period GNP function, g:' (1) g(p,q',x,t) = Max, (g(p,q,x, t) - phI + G(P,Q,X,L,I)]. The current balance of payments deficit is therefore given by the following: (2) b = e(p,u) + p,I(P,X,L) - g(p,q%,x,t) + y - f Here, 'y is a parameter representing current govemment expenditure (net of tax revenue) on traded goods, and f is an exogenous transfer from abroad. The equation thus shows that the balance-of-payments deficit equals absorption (consumption plus investment) minus GNP (or investment minus savings) plus the government deficit less net international transfers. Finally, the specification of the model is completed by the assumption that the level of employment in each period is determined endogenously in the face of exogenously given wages, w and W. Under these assumptions the effects of external shocks and policy changes on the current balance-of-payments deficit may be obtained by differentiating equation (2): For iiplzcity, we asue ta invatmet good am importd fely at a given price p -5 - (3) db = acdp + a2dq + a3dx + tv4df t + 010dP + P2dQ + PdX + f4dF + x1d'y + X2dw + X,dW, with the values of the coefficients given in Table 1. Note that the ao coefficients give the effects of temporary extenWal shocks while the 6, coefficients give the effects of anticipated future shocks. The sum ai+pi therefore gives the effects of permanent shocks. Note that equation (3) provides a measure of all effects on the balance of payments. These include current exogenous factors (the first four terms), future factors (the second set of four terms). The last line contains a parameter 'y, representing changes in domestic current government expenditures while the last two terms are domestic wage level change present and future. Since Ricardian equivalence is assumed there is an offsetting (negative) future expenditure r, such that the net preent value of the government deficit, 7+ar=o, is ro. Inspection of Table 1 shows clearly that the magnitude and even the sign of the effects of exogenous shocks on the balance-of-payments deficit depends crucially on the nature of expectations about the future. Since such information is almost certain to be unavailable, this suggests that specifying and estmating a formal econometric version of equation (3) is infeasible. This therefore provides a justification of the approach adopted in the -6 - text, which is to attempt to decompose the change in the balance of payments deficit using equation (3) as a framework. In the empirical work we decompose the analysis into external shocks and what are termed performance measures. The external shocks are the estimated impact on balance of payments due to changes in prices of exports, prices of imports, global quantity demand, interest rate changes and in some instances changes in foreign transfers. Ihe role of policy instruments in addressing the changes in the balance of payments is not computed directly but rather the estimated consequences of these policy actions. These are: changes in quantity of exports due to domestic export promotion efforts, changes in imports due to changes in growth rate of the economy and due to intensity of import use per unit of GDP and finally additional net external financing. Further work, which is not done at this stage, could help elaborate the relation between wage, fiscal and monetary policy and changes in performance measures. Empirical Calculation In this work we compute the effect of exogenous factors that have exerted major impact on a significant number of countries at various times during the last two decades: terms of trade, global demand and interest rate. These correspond to the fim four terms in equation (3,. We also include a fourth shock due to the cumulative impact of net extemal borrowing resulting from response to these external shocks. Rather than deciding explicitly, -7- whether the magnitude of the resulting changes or other feat4zres warranted the label of tempo ry or permanent shocks, it was deided to finesse this issue to some degree by recomputing the resulting deviations from what is considered nonnal trend (in most instances) on a year-by-year basis. These three potentially shock creating factors also have the property that they have affected all countries to varying degrees. Some of the elemerits are now discussed in detail. Terms of Trade. The impact on the balance-of-payments du6 to changes in terms of trade are based on varations in the price and quantity of exports and imports each year. A key difficulty in deciding on changes in terms of trade is on selecting which prices and tmade weights to use. In this analysis, we take the volume of exports in year t times the change in unit price from the preceding year to get the change in exports value due to price change. A similar calculation gives the import value change. Thus the weights (quantity-based) are updated each year and the price deviations are always relative to the immediately preceding year. These can be fiurher disaggregated by subcategory as deemed appropriate as illustrated in Appendix II. Tis alows one to avoid some of the misleading results that ensue from using a fixed set of weights over time in terms of trade measure, especialy when trade is unbalanced as it is for most developing countries. It also means that it wiUl be possible to compare the behavior of different countries in response to similar price shocks (e.g. oil price shock). Global Demand. While the terms of trade provide a measure of price varations it is also important to assess quantity effects. The growth of world demand and the - 8- even faster growth in world exports over recent decades has been an important source of growt for many countries. On the other hand slowdown in this demand, as occurred in the mid- seventies and early eighties, had a negative impact on most countries. By computing the share for country exports of the global total, one can gauge the impact of demand variations. Details on the methodology are given in Appendix I. lhis can be readily extended to reflect specific export categones or the particular direction of trade. Interest Rate. One measure of the cost of capital is the real interest rate. However, calculation of the real interest rate requires a measure of the expected rate of inflation. When nom!nal rates rise sharply, the expected change in the rate of inflation tends to follow so that usually the result is below normal real rates. However, when inflation rates decline, real ates usually do not fall as quickly and so tend to be high. Friedman's (1982) analysis of data over a hundred year period confirned this pattern. Generally real rates tended to be low in the seventies, but high in the eighties. In seeking to evaluate the role of interest rate variations, ideally one should analyze the impact on the real economy and on investment in particular. At this stage we are primarily concerned with the impact on the current account and so the focus is on nominal rAtes. During the last 20 years nominal interest rates (six month dollar LIBOR) have varied between S and 15 percent. For countries with large external debt positions this causes a manor source of variability in the current account. Most developing countries are net debtors so that this volatility has itself resulted in an increasing burden. This problem has become more -9 - acute since the increasng use of variable interes rate inuments from the early 1980s. Ideally the maturity of debt has to be considered also in ths contexL In particular, for highly-indebted countries, who had borrowed fro:n private commeril bans at vanable rate and short maturity, an increase in world inteest rates repreets a pnificant ctnal shock. Cumulative lIpact of Addional Borrowing Due to Shocds (CUM). The response to most shocks includes some change in net extemal financing. For unfavorable shocks this results in an additional burden which will have rLpercumsions for ensuing periods. One can also envisage a situation where some extemal debt might be redred under a favorable shock. For many countries undue reliance on exteral financing has produced highly unfavorable consequences. When a country has ready access to external financing, it is important that total external debt should not exceed prudent limits. Unfortmately thee are no hard or fast rules about what these limits should be. If there are some extaordinary invesment nities then one can envisage higher levels of debt being acceptable. In general one might be guided by some of the rules used by creditors. Some ceditors suggest that debt service to export ratio should not exceed 20% for an *average type country. However in a world of variable interest rates countries should be carefil about resorting to external borrowing that could plunge them eventually into a debt spiral. -10- 3. APPICATION TO THE PIJLIPPINES The specific case of the Philippines is now discussed. Delails of the calculations acuMally used are given in Appendix I. External Shocks The broad pattern of the external shocks estimated for the Philippines is given in Figure 1 with the convention that positive values indicate an unfavorable shock The corresponding values are given in Table 2 as a percent share of GDP. The Philippines suffered unfavorable shocks each year over the period 1972 to 1991 with only modest relief in 1973, 1983, and 1988. The shocks of largest magnitude occured in 1975 at 9 percent of GDP and again in 1981 at 6 percent of GDP. The avenage value of these shocks over the period was 2 percent of GDP (2.6 perment in the sevendes and 1.8 percent in the eighties) while the standard deviation was 2.7 pect of GDP (3.3 peroent in the 70s and 2.3 percet in the eighties). While the average magnitude Of d shocks ws whwirabk tiroughout the period the vola4iy was a further complicatig factor for policy mkrs faced with the problem of choosing the appropriate response. - 11 - Dacompositlon of the Shocks The three principal sources of external shocks and the resulting additional debt service component are shown in Figure 1 corresponding to the data given in Table 2. Terms of Trade. It is noteworthy that export and import prices seem to have followed differing paths during much of this period. Prices for Philippine export commodities rose sharply in 1973 and the following year. However, this gain was more than offset by the rise in import prices, primarily petroleum prices. When import prices again rose sharply between 1978 and 1981 their impact on the balance of payments was not moderated by a corresponding rise in export prices. In 1982, the world recession led to iower prices for Philippine exports, but this was offset to some extent by an easing of import prices. Later in 1989 and 1990 the Philippines again suffered terms of trade losses as export prices eased while import prices rose. A total terms of trade measure can mask a number of effects that may have different policy implications. First is the possibility of having simug aneous favorable and unfavorable price changes for exports and imports. There is also the possibility that, for many countries, price changes for certain trade categories may be more important than others. In most developing countries there is usually a merchandise trade deficit so that the inpact of inport price changes tend to have a proportonately stronger impact on the trade balance than similar changes in export prices. For oil exporters it is often the reverse. One can in principal desegregate these effects further by applying a similar methodology to individual trade categories. This computation is useful when trying to estimate the impact and response to a - 12- shock on say a particular export such as coconut oil in the case of the Philippines or import category like petoleum (see Appendix II, figure 5, table 5). Export Volume Effect. The Philippines suffered a significant loss in its share of the global market in 1975 and again from 1980 to 1983. On the other hand, during the buoyant global demand of the mid/late eighties they achieved only modest gains. MTis is discussed in the section on policy instruments. lnterest Rate hIpact. The impact of interest rate changes is estimated for the variable interest rate component of external debt on a year by year basis. Thus, the cumulative impact of the interest rate change on any additional new debt during the year is not explicitly taken into account in this analysis. Variable interest rate debt in the Philippines reached significant levels in the early eightis and by the end of the decade was about US$10 billion or about 35 percent of total extemal debt outstanding and disbursed. Thus each point change in interest rate resulted in a change of about US$100 million per annum in the charges on the variable interest rate debt for that country. On the other hand, the fall in global interest rates in 1990 and again in 1991 benefitted the Philippines by about US$100 million and US$240 million respectdvely. Additional Debt Service (CUM). The Philippines resorted heavily to extemal finance to response to both the first and second oil shocks. The service burden this generated grew rapidly in the early eighties when world interest rates rose. This additional - 13 - burden alone was about 2 percent of GDP per year during the first half of the eighties. The strong contraction of the economy in 1984 and 1985 allowed some moderation in the growth of extemal debt. Nevertheless the additional debt burden incurred in response to the shocks of the seventies exerted a major negative impact on the economy throughout the eighties. Having provided these broad measures of external shocks we next examine how the Philippines responded to them. This is done by estimating a number of performance measures. Performance Measures When faced with an external shock leading to a disequilibrium in the balance of payments, policy makers may react in a number of ways. The actual policy instruments will typically include fiscal, monetary and exchange rate policy. In this analysis we do not consider the instruments explicitly but rather performance measures. Four of these are computed on a year-by-year basis: export promotion, import intensity, economic compresson and additional external financing. The details of how these are acnally calculated are given in Appendix I. In the literatur on xterwal shocks a distinction is often made between temporary and pernanent. The conventional wisdom is that it is acceptable to borrow one's way through temporary unfavorable shocks but that permanent unfavorable shocks may require more "dramatic" policy adjustments. The problem is that for most shocks it is difficult, a priori, to make this distinction so that the best economic judgement may not be reflected in the choice of - 14 - poLicy instruments. A prudent policy maker should consider adjusting to some degree to all shoclks. On the other hand, favorable shocks may provide an opportuniy for introducing needed stuctural rforms. Beform discussing the policy instruments we first discuss tie four peformance measures and again use the Philippines as a quantitative example. As indicated in Appendix I the total performance response in each year equals the total extew.al shock impact on the current account ex post The equilibrating item is the additional net external borrowing-ANEP. The estdmates of the performance measures for the Philippines are given in Figure 2 and Table 2. Export Promotlon. The 'normal' share of exports in total world exports is obtained for each year by comparing the export growth volume for the oountry and the world. To the extent that the Phiippines export volume share exceeds this level we term this export promotion. One can of course modify this measure to suit particular country situations. For instance one might desegreate by export categoy and also by export market However, it may be more expedient to first look at this relatively broad aggregate measure before deciding how much more detail is warranted. In Table 2 one notes there was some positive export promotion in 1975 and 1977 and again during the early eighties. However, this effort began to tapa off and actually became negative in the mid-ehties. Later in the decade export promotion efforts began to show sone modest impovent. - is - - Jport Intensity. The import intiy effect in this work is a measure of change in imports due to the change in import elasticity. That is, if one were to assume no change in the growth rate. It does not make any assumption about how the change in import elasdcity was brought about. This import intensity measure shows a certain degree of voladlity, in particular during the eighties. It varied between 2.7 percent of GDP in 1984 and -2.8 percent of GDP in 1988. Such mAjor changes in the level of import absorption per unit of ODP suggest a crtain lack of continuity in policy as produ=ers change the import content in what seems to be an ermtic manner. Economic Compression. The effect on imports due to a slowdown in the economic growth rate alone is called the economic compression effect. Note that this is computed on the assumption that the elasticity of imports with respect to GDP does not change. What is striking is the sustained compression of the economy over the period 1980 through 1986 and again in 1991. Additional Net External Fnancing (ANEF). After the first oil shock the Philippine authorities sought to redress, by varying degrees, unfavorable developments in the cunrent account by virtually continuous recourse to additional external financing up to 1982-one exception being 1977. Then after the global tightening of capital availability to much of the developing world they were obliged to curtail their external borrowing up to the later eighties. - 16- Having quickly assessed the external shocks and the concomitant performance measures it is of interest to examine the policy measures adopted. 4. POUCY INSTRUMENTS A selection of economic variables are given in Table 3 while a listing of main events and policy measures are given in chronological order in Table 4. The balance of payments disequilibrium following the first oil shock was addressed primarily by increased external borrowing. This enabled the public investment share to increase from about 2 percent to 8 percent of GDP in the late seventies helping to boost the total investment share from 17 percent to 27 percent of GDP-see Figure 3. This large rise of investment provided the main stimulus to the economy although there was also some modest export growth. A cursory review would suggest that since the increased borrowing went mostly to investment, rather than consumption, that this was an appropriate response. However, there are some problems with this approach. One is that the investments should yield adequate return; and second, if the environment changes, that the erstwhile good investments should not deteriorate. This in turn would suggest that in a -foladle environment the overall gestation period for investment becomes a key concern. - 17 - When the second oil price increase occurred in the late seventies the authorities sought to continue foreign borrowing at first and so maintain the strong investment performance underpinning GDP growth. However, much of the investments undertaken did not produce the rns expected, either because they were poor investment choices to begin with, or as conditions changed they were less and less appropriate, so that by the early eighties the fiscal situation began to deteriorate. The situation was further compounded by an increasing lack of confidence in the regime as indicated by an increase in the premium on the black market above the official exchange rate (Figure 4a) and by a steady increase in capital flight (Figure 4b). increasing difficulties in a number of industrial firms and serious problems in the banking sector led to a foreign exchange crisis (Table 4). In 1983 the situation became untenable and in 1984 and 1985 the output fell dramatically. At the same time inflation rates increased rapidly further eroding stability and the climate for investment. Gross investment, as a share of GDP, fell from 29.8 percent in 1983 until it reached 16.8 percent in 1986. Because of the scarcity of foreign exchange, the government was then obliged to contain economic activity. Thus the imbalance was addressed by a fiscal and debt squeeze while also curtailing imports and inducing reduced import intensity. Poor export incentives meant that the Philippines during the mid-eighties was unable to avail of the buoyant global - 18 - markets at that time. The authorities did not take advantage of favorable shocks at that time to correct some of the structural problems in the economy. The lack of a serious industrial policy penalized furthermore the country in the eighties, when foreign capital flew towards other more appealing countries in the region. After 1986 the real exchange rate began to depreciate and this helped to boost a modest recovery in exports. However this was also accompanied by a surge in imports so that the current account deficit again began to grow. In terms of the theoretical framework presented, the discussion is between expenditure-switching and expenditure-reducing policies. The reaction to favorable and unfavorable external shocks will depend on the structure of the economy and on the sequence of policies adopted by the government. In equation (3) labor market is taken into consideration. In general the existence of a flexible labor market, in terms of wage and labor force mobility across sectors, is an important condition to restructuring the economy. However, lack of sldlled labor and of competitive markets represent a constraint to such attempts. In the case of the Philippines, the monopolistic structure of key markets have most likely slowed down the implementation of economic reforms. - 19 - 5. POSTSCRIPT With the benefit of hindsight one may ask whether the Philippines did in fact choose the appropriate policies when faced with balance of payments disequilibrium? Among comparable Asian countries in 1970 the Philippines enjoyed a relatively high per capita income but it has since failed to keep pace. It seems logical to ask why. The adverse external shocks obviously did not help the situation. However many other countres in the region also experienced similar shocks and yet performed better. Inevitably, there are a wide range of factors that go into explaining economic performance. External shocks and the policy response to them provide one vehicle for organizing at least part of the explanation. Perhaps the most notable feature of the policy response in the seventies was heavy reliance on external flows and their use to facilitate an investment boom. Given the relatively low real interest rates at the time one can argue that this seemed like a reasonable thing to do. There were however two major flaws with this approach. - 20 - The first relates to the actual investments undertaken. These seem to have been poorly conceived. They failed to produce appropriate returns, were associated with a lot of mismanagement and finally became a major burden on the state. Among the more obvious mistakes is a large nuclear power plant that has yet to yield any return. The second is that the seemingly liberal availability of external resources helped preclude the need for meaningful structural reform, especially in areas such as the public sector finance and the trade regime. The lesson of theoretical models is that inefficient public- sector resource allocation and distortionary trade policies are costly at any time and can absorb more than all of the gains from favorable shocks. When external conditions improved in the mid-eighties the Philippines was poorly positioned to take advantage of them. This was largely due to the legacy of the seventies: a large external debt and a cumbersome trade regime. However, the authorities might have made a better effort to use the gains from favorable shocks to introduce various structural reforms such as reducing impediments to trade, strengthening public finance, and freezing up factor markets. This would have introduced more flexibility into the economy which would have helped reduce the impact of unfavorable external shocks. In 1991 the Philippines was given a stand-by credit by the IMF. The present authorities are now finally addressing some of the structural problems; liberalizing the exchange rate regime, removing import tariffs and restructuring the public sector including the Centrl Bank. One hopes that this will provide a more sustainable basis for future economic growth in the Philippines and result in an economy that can absorb exteral shocks more readily. - 21 - BIBLIOGRAPHY Balassa, B. (1981), "The Newly IndustraUlizing Developing Economies of the Oil Crisis." World Bank Reprint Series 190, Washington, D.C. Central Bank of the Philippines (1990). Selected Philippine Economic Indicators Yearbook, Manila, Philippines. Friedman, M. and A. Schwartz (1982). Monetary Trends in the United States and the United Kingdom. National Bureau of Economic Research. The University of Chicago Press, Chicago. Intenational Monetary Fund (1992). International Financial Stadstics Yearbook, Washington, D.C. Little, I.M.D., R. Cooper, W.M. Corden and S. Rajapatirana (1993). Boom. Crisis, and Adjustnent: The Macroeconomic Experlence of Developing Countries. Oxford University Press, New York. McCarthy, F.D. and A. Dhareshwar (1992). 'Economic Shocks and the Global Environment," World Bank, Working Paper No. 870. Neary, J. Peter (1993), External Shocks, Policy Response and Economic Performance, A Theoretical Framework, mimeo, World Bank. Rodrik, D. (1993). "Trade and IndustWial Policy Reform in Developing Countries: A Review of Recent Theory and Evidence," Chapter to be included in J. Behrman and T.N. Srinivasan (eds.) Handbook of Development Economics Vol. II, North Holland, Amsterdam (forthconiing). World Bank (1993). The Philippines: An Opening for Sustained Growth, Washington, D.C. World Bank (1992). Market Outlookfor Major Primary Commodties, Washington. World Bank (1992). World Debt Tabls 1992-93, Washington, D.C. World Bank (1993). World Tables 1993, Johns Hopkins University Press, Baltimore. World Bank (1991). World Development Report, Oxford University Press, New York. - 22 - APPENDIX I EXTERNAL SHOCKS AND PERFORMANCE MEASURES: GENERAL METHODOLOGY External Shocks In this r ,endix three types of direct shocks and one indirect are considered. Direct Shocks: 1) Terms of Trade Effect 2) Export Volume Effect 3) Interest Rate Effect Indirect Shock: 4) Cumulative Impact of Additional Financing 1) Terms of Trade Effect (TOTT) In this part, the methodology used to estimate the impact of terms of trade variations is presented. Firstly, import and export pnce uffects are estimated separately and later combined to obtain the total terms of trade external shock. This approach can be extended to further disaggregation based on different trade categories. Details are given in Appendix II. Terms of Trade Import and export values, gained or lost by the country as a consequence to changes in the terms of trade, are obtained using the following approach. TOTT, = TOTIM - TOTIX t=(1971,...,1991) TOTT, is the net effect of terms of trade variation at time t due to import and export price changes from time t-l to t. The convention adopted is that unfavorable terms of trade effect TOTT, is positive. - 23 - Import Effect TOTM, = VM, (PK - PKM) A positive value for TOTM,, represents a loss in imports value by the Philippines at time t, due to an unfavorable import price change from time t-l to t. VM,= MNPM, = volume of merchandise imports by the Philippines at time t M= value of merchandise imports by the Philippines at time t (CF, current USS) PM,= unit value of imports at time t (index, 1987=100) Export Effect TOTX, = VEt (PA, - PEj) A positive TOTX, means a gain in exports value by the Philippines at time t, due to a favorable export price variation from time t-1 to t. VE,= E,/PEt = volume of merchandise exports by the Philippines at time t E= value of merchandise exports by the Philippines at time t (FOB, current US$) PEt= unit value of exports at time t (index, 1987=100) Adding together the import and export effects: TOTT = [M, (PM, - PM) - V, (P, - PE,.)J] Thus, a positive TOTT, is an unfavorable shock. Note that TOTr, gives the net result for one year. If one wishes to compute the terms of trade effect over a number of years then these terms may be summed. - 24 - 2) Global Demand: Export Volume Effect (EVE) The global demand shock is estimated by looking at the quantity effect. The Export Volume Effect indicates that the Philippines' share of world export is changed as a consequence of growWth/slowdown in the world demand. A positive EVE, is an unfavorble shock on the current account. EVE, = E, (TXVW, - GRXVW) t=(1970,..,1991) EVE, is the value of exports by the Philippines at time t if it is assumed that there is no change in price from time t-l to t. E,,= value of merchandise exports by the Philippines at time t-1 (FOB, current US$) TXVWZ is the expected rate of growth in world export volume at time t, based on the previous ten years. The estimate is obtained through: logXVW a + bt1 b = TXVW, it-1,...,t- XVWt = volume of world merchandise exports at time t GRXVW, =(XVWt - XVW>,)/XVWt, growth rate in world export volume from time t-l to t 3) Interest Rate Effect (IRF) RF, = LTVIR,1 (it - it-) t=(1970,..,1991) IRP, is the loss/gain in interest payments at time t caused by movements in the international interest rate. LTVIR,.l is the volume of long-term debt at time t-1 sensitive to changes in international interest rate. it is computed by adding together the share of public and publicly guaranteed long-term debt at variable interest rate and the total private non-guaranteed debt. The latter is assumed to be interest sensitive.(See World Bank, World Debt Tables 1992-1993) - 25 - i = Six-months LIBOR on US dollar deposits. (Period average in percent per annum). A positive IRFP as determined by an increase in the internat:onal interest rate, means a worsening in the country's obligation or an unfavorable shock. 4) Cumulative Impact of Additional Borrowing due to Shocks (CUTM Assume that additional net extemnal financing at time t due to impact of all shocks at that time, net of other responses, is ANEF,. Then at time t+ 1 this gives rise to an additional burden of CU?41 where CUMK+l = ANEF, (it+,) If one continues to assume that the interest is paid each period then at time t+j CUM+j = ANEFt+j.. (i,+) + ANEF,+j-2 (l+i+j -)+j +... Thus the cumulative impact of additional net exctenal financing can become quite large. On the other hand under favorable shocks ANEF may be negative thereby reducing or even making the oveall burden favorable. This could then be interpreted as an increase in reserves. Performance Response Measures Four measures of performance response are considered: 1) Export Promotion (EPR) 2) Import Intensity (MSUB) 3) Economic Compression (ECOM) 4) Additional Net External Financing (ANEF) - 26 - 1) Export Promotion (EPR) EPR, = EAt - EH, t=(1970,..,1991) EPR, provides a measure of export promotion by the Philippines at time t, assuming that prices had not changed from time t-l to t. The difference between growth in the Philippines and world export volumes is used to gauge the export promotion effort undertaken by the country. EAt = E,j (I + GRVEJ EA, is the value of exports at time t, at the price prevailing at time t-l. E= value of merchandise exports by the Philippines at time t-l (FOB, current US$) GRVEA =(VE, - VE, ,)/VE1.1 growth rate in the Philippines export volume from time t- I tot VEt= E/PE, = volume of merchandise exports by th*. Philippines at time t EHl = Ej (1 + GRXVW,) Elf, is the value of exports at time t determined by changes in the volume of world export, assuming that the price had not changed from time t-1 to t. GRXVWt =(XVWt - XVW.,)/XVW,, = growth rate in world export volume from time t-l to t XVW, = volume of world merchandise exports at time t Substituting we obtain: EPRt = E.I(GRVEA - GRXVW) A positive EPR, indicates that the country increases its share of world exports. This result might be interpreted as the consequence of an export promotion policy. However, EPR, is strongly dependent on changes in international conditions which are independent from domestic policies. - 27 - 2) Import Intensity (MSUB) MSUB = MH - MAt t=(1970,..,1991) MSUB, is a measure of import intensity computed as follows: MH = Mtj,l + EL4(GDPGRJ] MH, is a hypothetical value of imports at time t, assuming that the import elasticity to GDP had remained at its "historical' level and that there is no change in price from time t-1 to t. EI, is the import elasticity to GDP expected at time t based on the previous ten years and computed by regressing logV,= a + blogGDP; b=EL4 i=t-l,...,t-ll. V, = country's import volume index at time t (GDPGRK= (GDP, - GDP ,-)/GDPtl growth rate of country's GDP from time t-l to t MAt M=.1(1 + GRVM,) MA, is the value of imports at time t, if it is assumed that no change in price from time t-I to t had occurred. GRVMK = (VMK - VKM)/VMKl growth rate in the country's import volume from time t-l tot Substituting, MSUBT = MK.j[ELj(GDPGRj - GRVMJ Technological change is pardally captured by changes in the elasticity over time. If import intensification takes place, it means that country's imports are higher than expected, and therefore, MSUBt will be negative. - 28 - 3) Economic Compression (ECOM) ECOK = MVTt - MH t-(1970,..,1991) ECOK is a measure of the change in imports at time t due to compression of the economy. MVT, = Mil[l + EL,(GDPr)j GDPT, is the expected trend rate of growth in country's GDP at year t, based on the previous ten years. logGDPi= a + bt1 b,=GDPT, i-t-l .. ,t-ll. Mg = Mtt(l + ELL(GDPGRJ] Substituting we obtain, ECOM,= 4.,[IEL(GDPT, - GDPGR)J When economic compression takes place, ECOM, assumes positive values. Note that ECOMK is a measure of the effect of change in the growth rate alone (i.e. does not include effect of change in elasticity). 4) Additional Net Extenal Thancing (ANEF) ANEF, = [(TOrTt + EVE, + IRF, + CUMJ - (ElPR + MSUB, + ECOM,J] ANEF, is the ex-post equilibrium measure of external financing required to compensate the difference between the total external shock and performance response measures. It is positive when an additional external financing is required. - 29 - APPENDII H EXTERNAL SHOCKS AND PERFOR.MANCE MEASURES: METHODOLOGY APPLIED TO SPECIFIC TRADE CATEGORIES In this appendix, we extend the methodology adopted in Appendix I, to compute the effect of exteral shocks on specific export and import categories. Again, variations in prices and quantities are estimated separately to isolate the impact and the reaction to different external shocks. In the case of the Philippines, coconut oil and petroleum are used as examples of export and import commodities. The methodology, however, can be extended to other trade categories. EXPORTS: THE COCONUT OIL CASE In this part, the methodology to evaluate the effect of price and global demand shocks on the export of coconut oil and the export promotion response measure is presented. Results are showed in Table 5 and Figure 5. External Shocks Effect of Price Change We assume that the Philippines is a price taker in global markets. The effect of variations in the world market price of coconut oil on export receipts is computed on a year by year basis: TOTIC = VEC, (PECt., - PEC) t=(1970,..,1990) A positive TOTC, is a loss in coconut oil export receipts by the Philippines at time t, due to unfavorable price changes from time t-l to t. VEC,= EC,/PEC, = volume of coconut oil export by the Philippines at time t ECq= value of Philippines'coconut oil export at time t (FOB, current US$) PEC= price of Philippines' coconut oil export at time t - 30 - Coconut Oil Export Volume Effect (EVCE) EVCE, = EC., (TCXW, - GRCXW,) t=(1970,..,1990) EVCEt is the value of coconut oil exports by the Philippines at time t, if it is assumed that no change in price from dme t-l to t had occurred. A positive EVCE, indicates an unfavorable shock on the Philippines current account. EC,,= value of coconut oil export by the Philippines at time t-l (FOB, current US$) TCXW, is the expected rate of growth in world export volume of coconut oil at year t, based on the previous ten years. The estimate is obtained through: logCXW, a + bi4 b = TCXW, i=t-ll...t-l GRCXW, = (CXW, - CXW,.,)/CXW,., growth rate in world export volume of coconut oil from time t-l to t CXW= CWX/PWX, = volume of world coconut oil exports at time t CWX= value of world coconut oil exports at time t (current US$) PWX4= world price of coconut oil exports at time t Performance Response Measure Export Promotion (EXCOCPR) If there was an export volume shock on coconut oil, it is of interest to observe how the Philippines responded. We analyze this by estimating the corresponding export promotion effort. EXCOCPRP = EXCOC, - EXCOCH t=(1970,..,1990) - 31 - EXCOCPR, provides a measure of coconut oil export promotion by the Philippines at time t, assuming that price had not changed from time t-l to t. It is the difference due to changes in volume over time which reveals whether the country has increased its own international share of the trade category here analyzed. EXCOC = EC., (1 + GRVEC3 EXCOC, is the value of coconut oil exports by the Philippines at time t, if it is assumed that no change in price from time t-l to t had occurred. EC,, = value of coconut oil export at time t-l (FOB, current US$) GRVEC, = (VEC, - VECt,)/VECt, growth rate in the Philippines export volume of coconut oil from time t-1 to t EXCOCH = EC>, (1 + GRCXW) EXCOCH is the value of coconut oil exports at time t determined by annual changes in the volume of coconut oil world exports. Again it is assumed that the price remains at time t-l level. GRCXW, = (CXW, - CXWt.V)/CXWV, growth rate in world export volume of coconut oil from time t-l to t Substituting we obtain: EXCOCPRt = ECI(GRVEC, - GRCXW,) A positive EXCOCPR shows that the country increases its international share of coconut oil exports. - 32 - IMPORTS: THE PETROLEUM CASE The overall effect of changes in import prices computed in the Appendix I, can be disaggregated in various components. Here, the reaction of the Philippines economy to petroleum price variations is analyzed. Since variations in the price of petroleum have a scong impact on the balance of payments of many countries, it is of interest to extend this analysis to other countries to gauge different reactions to the same external shock. It is important to point out that the same methodology can be extended to other import categories. As above, it is assumed that the Philippines is a price taker in the world market. External Shock Effect of Price Changes The effect of variations in the price of petroleum is computed on a year by year basis: TOTP= VMP (PMP, - PMP,1) VWMP, MP,/PMPI volume of petroleum imports by the Philippines at time t MP, = value of petroleum imports by the Philippines at time t (CIF, current US$) PMPt = unit value of petroleum imports A positive TOTP, represents an increase in the value of petroleum imports due to unfavorable price changes from time t-1 to t. - 33 - Performance Response Measures Petroleum Import Intensity (PMSUB) PMSUB, = PMH - PMA, t-(1970,..,1990) PMH = MPW,1l + ELPMK(GDPGRJ] PMH is a hypothetical value of petroleum imports, asuming that the import elascity of petroleum imports to GDP had remained at its whistorical" level (i.e. based on the previous ten years), and petroleum price had not varied from time t-I to t. MPt. = value of petoleum imports by the Philippines at time t-l (CIP, curent USS) ELPM is the petroleum import elasticity to GDP expctd at time t based on the previous ten years and computed by regressing: logVPMK= a + blogGDPI b=ELPM, i=t-l,...,t-1. VPM = volume of petroleum imports by the Philippines at time t (imdex 1985-100) GDPGRt = (GDPt - GDPfrJ)/GDPtJ = GDP growth in the Philippines from time t-l to t PMAt = MP.1,(1 + GRVPMJ PMP, is the value of petroleum imports based on change in the volume of petoleum imports and assuming that petroleum price had not changed from time t-l to t. GRVPI = (VPM, - VPM,.)/VPM, = growth in the volume of petoleum imports by the Philippines from time t-l to t Substituting, PMSUBt = NPj.[ELPMK (GDPGR) - GRVPMJ -34 - Economic Compresdon (PECOM) PECOM - PMVT, - PMfHI PECOM, provides a measure of the amount of petroleum (value) imported as a consequence of changes in GDP. These are computed as deviadons from the -historical GDP growth expected at year t. It is computed as follows: PMVT, - MPf$, [1 + ELPMP(GDPT3J GDPT, is the expecd trend rate of growth in GDP at year t, based on the previous ten years (see Appendix I, page ) PMH = MP., (I + ELPM, (GDPGRj] Substituting, PECOK = MPt, [ELPM, (GDPr,-GDPGRRJ - 35 - SOURCES OF DATA: For the Phlippines: TRADE: - Value of Merchandise Exports (fob) at current prices (USS): World Bank, Star and World Tables 1993; - Value of Merchandise Imports (cif) at cunrent prices (USSS): World Bank, Stas and World Tables 1993; - Unit Value of Exports: World Bank, Stars and World Tables 1993; - Unit Value of Imports: World Bank, Stars and World Tables 1993; - Value of Petroleum Imports, cif, (USS): Central Bank of the Philippines, Seectd Philippines Economic Indicators, 1990; - Price of Petroleum Imports: Central Bank of the Philippines, Selected Philippines Economic Indicators, 1990; - Value of Coconut Oil Exports, fob, (US$): Central Bank of the Philippines, Selcted Philippines Economic Indicators, 1990; - Price of Coconut Oil Exports, (USS/t): Central Bank of the Philippines, Selected Philippines Economic Indicators, 1990; DEBT: - Value of Debt at Variable Interest Rate, (USS): ECDI da;bae; - LIBOR, six-months on US$ deposits, period average: IMF, Intrnational Financial Statistics, various years; GDP: - GDP at current market prices (US$):CP.$.GDP.NM from ANDREX; - GDP at constant 1985 market prices (USS): KP.$.GDP. MP from ANDREX; - 36- For the World: Cunrent Value of World Exports and Unit Value of World Exports: IMFIFSBA,EXPVALJTOTFOB_USD from BESD; - Current Volume of World Coconut Oil Export: Oil World, 1987 and 1992; - Current World Price of Coconut Oil, (US$I1000t): World Bank, Market Outhook for Maor Primary Commodities, vol.1, 1992. 37 Table 1: Coefficients of Equation (3). Relating Changes in the Current Balance of Payments Deflcit to Changes in Exogenous Vaiables Exogenous V3ziable Coefficient Current import prices al': (I-c)tm'4w(8g,V'4 + p'ep, (cO) Future import prices i': -ct+WM WGr')GLp + P 'pp + P/p ({>O) Current export prices 0 -U-c) c 0 Fu=re export prices P2: *X > 0 Current export sales x -(I-c)[q*-q-w(gdf8 '9* < 0 Fuure export sales +3: c(Q*-Q-W(GWL) GT IX > 0 Current transfer 0. -(I-c) c O Future trnsfer 13. c > 0 Curent fiscal expansion xi: I > 0 Curent real wage 2 -(I-C)W(gd-/ > 0 Futm reai wage x3: (cW4pJL)(G:,L) < 0 Notes: Symbols are explained in the text. The signs given after the coefficients (especilly those In brackets) are subject to qualifications discussed In Neary (1993). Table 2: PHIIPPINES External Shocks an Polcy Pertormance Measmes las a percent o GOP) 1972 1973 1974 1976 1976 1977 1978 1979 1980 1981 1982 1983 1984 1986 1986 1987 1988 1989 1990 1991 EXTERNAL SHOCKS Termsoftradeelaect 1.01 -2.24 3.19 6.39 0.08 0.63 1.32 0.80 3.10 2.19 0.36 *1.87 -1.44 1.55 4.0J2 0.11 .1.89 0.85 3.78 0.60 Export Volume ettect 0.15 0.52 0.28 2.55 -0.44 0.48 0.19 -0.20 0.75 1.00 1.35 0.04 *1.03 0.00 0 25 0.3 .0.93 066 0.03 40.33 lntefst rate effect *0.14 0.35 0.12 .0.29 0.16 0.02 0.3s 0.31 0.21 0.34 -0.43 *0.72 0.30 .0.69 o0.4 0.15 0.25 0.28 4.022 -0.53 Additional Debt Serv. 0.00 0.17 .0.09 0.42 0.02 0.69 0.72 1.20 1.52 2.19 2.08 1.96 2.33 1.46 1.16 is 1.31 1.55 1.83 1.62 Total 0.73 -2.23 3.49 9.06 0.10 1.72 2.57 2.03 5.8 5.72 3.36 o0.5 0.16 2.60 0.12 0.72 .1.26 2.02 5.42 1.36 POUCY PERFORMANCE MEASUIIES ANEF 2.26 -2.93 6.63 6.34 0.81 -0.24 4.25 2.88 3.44 2.64 2.38 0.27 4.21 40.s3 -0.09 3.52 2 55 6.09 5.s6 -1.82 Export Promotion -3.47 -0.30 .1.39 3.43 -0.26 1.65 -0.45 -0.46 1.94 1.32 0.25 -1.60 -1.44 40.80 0.79 .0.62 0.27 1.03 0.69 -0.32 lInpt ntenity 2n0 1.38 -1.69 -0.71 o0l 0.37 *1.14 -0.18 0.31 1.10 0.25 0.43 2.74 1.7 40.56 -1.67 -2.64 -2.17 1.22 131 Econonic Compression 40.14 40.38 0.35 -0.01 -0.26 40.05 -0.08 -0.22 40.11 0.46 0.49 0.87 3.07 2.06 40.01 -0.51 -1.24 -2.93 -2.04 1.68 Totl 0.73 -2.23 3.49 9.06 0.10 1.72 2.57 2.03 5.58 5.72 3.36 -0.58 0.16 260 0.12 0.72 -1.26 2.02 6.42 1.36 LA) 00 SsOM. COWuasugiband do0m mmeSmiag PUIMWAditd MAPPs. Oils fW uM &Wi *0 Md WI. 1972-75 1978410 1981-85 1930-91 TowafTa4.t.m .rg 2.09 1.19 0.16 0.44 bgso V&WfsISsci. P 0.64 0.14 0.29 -0.39 bhn bua: ~ ODtS" 0.01 0.14 40.22 40.09 _d0mDM um: somp 0.12 0.93 2.00 1.42 ToWd 8ju5 55a.: v 2.76 2.40 2.23 1.39 u.s 4.80 2.00 2.64 2.27 Table 3: PHILPINES Selected Econonic Indicators 3971 3972 1973 1974 1975 1976 1977 1975 1979 398O 1961 1982 1983 1984 N9O5 1996 1987 1988 1989 00F6 SO 6.4 5.4 6.6 3.4 6. 8 5.5 5.l 6.6 6.1 3.4 3.a 1.5 .7.3 -7.3 3.4 4.8 6.3 6.0 cmMIS 21.40 8.20 16.568 34.16 6.76 9.20 9.90 7.33 17.53 18.20 13.08 10.22 I0.03 50.34 23.10 0.75 3.79 8.76 12.21 V*mC"mi.ma ui0Pf 70 89 64 65 65 62 62 64 63 67 67 69 6s 72 76 72 73 73 71 msg_OVAC.AiWp a a % ofP 1 10 10 10 I1 11 10 t0 9 9 9 9 a 7 a 8 6 9 9 G.9,m* wSGmas aO6P 21 21 22 27 31 33 31 33 33 29 27 2* 30 22 1S 16 I8 a I 22 tW__- " a S O GOP s1 is 17 20 25 26 25 26 26 27 26 25 30 26 17 I7 17 Is 21 DOW n a _WCM go tW UT *.90 7.90 7.0 5.20 3.10 2.60 4.80 1.10 2.40 2.00 be tP 1 C3 15.20 36.11 13-63 16.99 1S.27 14.76 14.73 13.64 15.49 17.01 16.52 14.35 12.73 14.01 1S.04 17.49 16.6 1.64 ~tAm palmi34I i wto 5.5 *11.6 I.4 .4 17.6 21.3 3.5 4.6 6.8 18.2 7.9 .26.7 .33.4 0.6 9.2 12.5 16.6 _ _am ' 6.43 6.67 6.76 6.79 7.25 7.44 7.40 7.37 7.36 7.51 7.90 8.14 13.31 16.70 3.631 20.35 20.67 21.09 21.74 m ahbst 97.27 102.38 IOS.6 109.61 52.26 91.39 100.00 78.03 71.60 9.64 74.93 Lmw*b~ am 0.2 6.5 6.0 4.2 4.3 5.7 5.3 9.5 7.3 6.3 9.1 9.6 o0.5 10.6 12.5 11.5 13.2 9.5 9.2 awot"Od3ib*molu7Si.3io Ui I62 346 133 107 107 306 303 100 is 79 86 304 1006 30 313 330 112 114 i2n %WMcgbuf&mpueSP4lpS)915$3 320 380 390 400 390 390 410 420 440 460 450 460 440 420 410 400 430 440 450 Gha. ugmSkwgu. wu cap.1S 1SMI 100 300 100 320 ISO 170 160 170 190 3o0 ItO 390 200 130 90 90 lO 130 140 seest 7IM _AziIS W US 14 1777 1982 2028 2428 3064 4437 8183 10772 13282 17417 20883 24651 24395 24356 26622 26207 29763 28966 2U376 Eam."WuGOPEI 24 24 20 t8 21 26 42 41 48 54 59 64 73 7t 87 94 59 76 67 CbI StIIW3PMStU 199.43 -10.97 -711.61 -576.8 11.236 64.213 26.602 665.74 *376.58 S966.57 331.86 717.6 2045.5 *13.64 294.08 .1099 95.279 625.67 .280.12 _ibs..aP.i. 330 33.85 11.92 9.43 IOS t0.34 10.39 30.65 30.66 12.28 12.14 12.65 13.76 14.23 28.53 26.72 IILO. 33.51 14.67 13.65 hhSchedeLm_ 3t08 107 103 106 110 107 113 109 106 107 306 107 109 110 333 5g td f Rol 48 54 60 GI 63 64 6* 66 67 68 64 67 66 71 73 36w45mny53 as 64 62 60 58 56 54 53 53 52 62 61 50 49 47 46 4S 44 43 folw _wsmau3 G0P3l 2.29 1.96 1.63 1.96 1.93 1.87 2.14 1.97 1.73 2.20 2.41 2.17 1.62 2.26 2.44 2.49 2.74 3.19 SmtehUIOG3IP 0.45 0.44 0.61 0.6 0.73 0.72 0.67 0.69 . 0.61 0.69 0.68 0.67 0.90 0.87 0.75 0.72 0.69 0.79 U b_t 6biuginI wi Sm Ind @dm. U Cie * Couasmt emmt W Stnl Ok 33 Cm"GjOw IquASme miU _ _Nuppmh 118 SaMaaU5D"IWA...WSW .fbg 35. M: IMS _ t M#- %I. Too trm4. Case Ad l363 'AL MWAu WfNaOf U Wa&dLOW. Unar ModiMbed Ceded Sasim CS U Aid 3583. IL' NO CMs h _ masa_ Id _a.. Mhhi fm ftwmasan m. amse mG eto dacaim. I- * Ma t1o: T_aa 9m1 0lloa"1 333 C_ts _m.ma _que SKa_6 Sai acy %l3 CaM" Ogum m Łaka.ian E*m35' OP Said rwamy U3g. C ar Sap.. l__VIn to Sadd6 CInd 40 Table 4. Philippines Main Events and Policy Measures 1970-1972 Implementation of an export promotion plan (Export Incentives Act) Introduction of a managed floating regime. Devaluation of the peso. IMF-sponsored stabilization program Establishment of the Consultative Group for the Philippines 1973 Provisional accession to the GATT Liberalization of foreign investments repatriation Exchange rate over-valuation 1974-1979 Philippine Trade Act Increase in domestic interest rates Increase in public infrastructure spending During the 1970s the number of government-owned corporations increased from 75 to 207. The expansion was concentrate in banking, transport, water, and energy sectors. Increase in public spending. Strong consequences on external debt and private sector (crowding out). 1980-1982 Deterioration in the prices of the major commodity exports Financial Deregulation O11) Trade policy reform: reduction in tariff rates . Dewey-Dee crisis. It was a case of bankruptcy which had a strong impact on the financial system. Huge capital flight 1983 Failure to reach a new agreement with the IMF and interruption of a Stand-By in 1983. It is discovered that the Central Bank overestimated its intemational reserves level by as much as 50 percent. Announcement of a 90-day moratorium on extemal debt amortization. Devaluation, introduction of extraordinary measures to control imports and allocate foreign exchange. 1984-1986 Monetary contraction New tax on foreign exchange for non-merchandise transactions and a windfall tax on traditional exports Rationalization of investment incentives Government and central bank Interventions to support public financial sector losses. New Standby arrangement with the IMF, rescheduling agreement with Paris Club creditors Rescheduling agreement with commercial banks Privatization of the sugar monopoly 41 Table 4. PhilipDines Main Events and Policy Measures Depreciation End of Marcos' era Elections and new democratic regime Trade reform and nominal peso depreciation New Standby with the IMF and economic recovery loan with the Bank Reform of the tax system. Introduction of a Value Added Tax Abolition of sugar and coconut marketing monopolies 1987-1989 Liberalization of most producer prices Beginning of a re-organization and privatization of public non-financial corporations. Elimination of quantitative restrictions on capital and intermediate goods Minimum wage legislation civil servant standardization program. I Increase in real wages and worsening of competitiveness. Domestic interest rates went up. Military attempt to overthrow the Govemment Agreement with Paris Club provided cash flow relief 1990-1991 Earthquake in Luzon Gulf crisis: rise in oil import prices and decrease in remittances Typhoon Debt buyback Monetary contraction Depreciation Adoption of EQ 470 - Tariff Reform Program Removal of quantitative restrictions Tdab 5: flAI9kIs Cocomnt ON Export Effects (as a shwe of GDP) 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 Price Effect 0.48 -0.75 -1.69 2.23 0.14 -0.74 -0.34 -0.92 0.87 0.31 0.19 -0.25 -0.88 0.96 1.11 -0.32 -0.30 0.04 0.45 Expot Vohme Eflfect -0.21 0.18 0.15 -1.13 -0.35 0.42 -0.13 0.53 0.02 -0.13 0.19 0.04 0.61 -0.45 -0.39 0.10 0.13 0.03 -0.23 Total Extemal Shock 0.27 -0.67 -1.54 1.09 -0.21 -0.32 -0.47 -0.38 0.88 0.18 0.38 -0.21 -0.37 0.51 0.72 -0.22 -0.17 0.07 0.23 Expon Pomotbon -0.04 0.06 0.04 40.07 0.10 0.11 0.28 -0.17 0.16 -0.03 -0.07 0.06 -0.24 -0.25 0.68 -0.09 -0.12 -0.02 0.18 4l 1 $& Otdn_tf _" WdM od 43 Figure 1: PhiliDoines External Shocks (as a percent of GOP) 10.00 _ _ 10.00 - ~~~~~~~~~~~~~~~~~~~~~Total Shock 9.00 Total hock I.00 -… Terms of Trade 8s.00 _/ 7.00 . / . .. Export Volume 6. 00 t T afrade Interest Rate 5.00 cum, 4.00 3.00 %-z .00 0 r Estimated usn mepndL Itat* 0~~~~~~~~.00 -2.00 - w .-- .00 CUM = cumulative impact of additional borrowing due to shocks Source: Estimated using methodology in Appendix I 44 Figure 2: Phfli20ines Policy Performance Measures (as a percent of GDP) 10.00 9.00 Addiohnal Not Extrnal Financing (ANEF) ------- Expwort Promotion 7.00 ANEF 6.00 - . Import Intensity 5.00 - Economic Compression 4.00 3.00 / Economic Compression i.00 i " I' / j \ ;/,.s\ ,/ , 2.00 i \ 1.00 ' ' \ / -5.00 Sourco: Esum uing mothodolom Appondix 1 ~ ~ ~ ~ ~ ~ ~ ~~c -1.00 t- ta r- rl o N c co - ca'5 40 --'CO -co -( ' ;t -1.00. ,, ..~ e 0 CDo CD CD 01 0 1 0 CDm...-or @1Cat., - II.CD,' co -3.00 Import Intensift Source: Estdmated using methodology Appendix 1 45 Figure 3: PhilioLines Gross Domestic Fixed Investments (as a percent share of GOP) 30.00 Total GOFIIGDP 25.00 % 5.00 20.00 'PI-iva te- GOIIP i I I-. -- I i - -- - - r r * P f r N co c c co co co co CD CO 9% ~0 0 ( CD CD) co 0 C C n 0) Source: W 0 0 0 0 0 0 0 0Naioa 0 0 0 0 0Acc Source: World BDank, Andrex; Government of The Philippines, National Accounts. 14 -6 ti ~~~~~~~~~~- - N N CJ cn cm 0 a" 08gl n o < n o 0 8 8 8 80 8 0 8 80 8 8 8 1970 - _- +,;.- _ 2 0- 0 (_ a * lI72 IN X1971.. 1972 I i 1973 - f 3 l r 1980 . \ E w wX17 -L 1973 1972 W. 1974. 1973 itin 198574 1974 . -o E 1975 IiI~~~~~~~ 97 1976 1975 . .I 5. 19t7 . ~~~1976 . . 1977 . ' 1979 8 11975 .0 1979 1978 /0 191-_1979.. 198077e 19807 19781 1980 1979~~~~-lI* 5 0J~ 1980 1981 ~ ~ ~ ~ ~ ~ ~ 94 ' 198 a ~~~~~~~~19816 1983 ~~~~~~~1987. 1989 ~ ~ ~ ~ ~ ~~~~18 I-~~~~~~~~I 19 ~~~~~~~~~~~~19886I 199098 1989 1990- 47 Figure 5: Phi1jojiaes Coconut Oil Export Effects (as a percent of GDP) 3.00 2.50 1- Price Effect 2.00 Price oet --- Export Volume Effect Expon Promotion 1.50 1.00 fi \ /\ /Ext o~~~~~~~~~rt otimoon 0.50 0.00 Ov) *' 1) co0 r% |0 0_ 0 co -0,00 - cu M 0 m 0 0 , - , , ......._ $ T )\0) ,0) X \ 0) X 0) n s_ 1Exp t Voahma Effect -1.50T -2.00 Source: Estimated using methodology Appendix 11. Policy Research Working Paper Series Contact Title Author Date for paper WPS1249 Competitiveness and Environmental Piritta Sorsa February 1994 P. Kokila Standards: Some Exploratory Results 33716 WPS1250 Explaining Miracles: Growth William Easterly February 1994 R. Martin Regressions Meet the Gang of Four 39026 WPS1251 Excise Taxes John F. Due February 1994 C. Jones 37699 WPS1252 On the Dangers of Decentralization R6my Prud'homme February 1994 TWUTD 31005 WPS1253 Can Competition Policy Control 301 ? J. Michael Finger February 1994 M. Patena K. C. Fung 37947 WPS1254 What Are OECD Trade Preferences Alexander J. Yeats February 1994 J. Jacobson Worth to Sub-Saharan Africa? 33710 WPS1255 Intrahousehold Resource Allocation: Lawrence Haddad February 1994 P. Cook An Overview John Hoddinott 33902 Harold Alderman WPS1256 World Fossil Fuel Subsidies and Bjorn Larsen February 1994 C. Jones Global Carbon Emissions in a Model 37699 with Interfuel Substitution WPS1257 Old-Age Security in Transitional Louise Fox February 1994 E. Vincent Economies 82350 WPS1258 Decentralizing Infrastructure: Richard Bird February 1994 WDR For Good or for III? 31393 WPS1259 The Reform of Fiscal Systems in Robin Boadway February 1994 C. Jones Developing and Emerging Market Sandra Roberts 37754 Economies: A Federalism Perspective Anwar Shah WPS1260 When Is a Life Too Costly to Save? George L. Van Houtven February 1994 A. Maranon Evidence from U.S. Environmental Maureen L. Cropper 39074 Regulations WPS1261 A Political-Economy Analysis of Arvind Panagariya March 1994 N. Artis Free Trade Areas and Customs Ronald Findlay 37947 Unions WPS1262 Flexibility in Sri Lanka's Labor Market Martin Rama March 1994 P. Cook 33902 WPS1263 The Effects of Barriers on Equity Stijn Claessens March 1994 F. Hatab Investment in Developing Countries Moon-Whoan Rhee 35835 Policy Research Working Paper Series Contact Ttle Author Date for paper WPS1264 A Rock and a Hard Place: The Two J. Michael Finger March 1994 M. Patefla Faces of U.S. Trade Policy Toward 37947 Korea WPS1265 Parallel Exchange Rates in Miguel A. Kiguel March 1994 P. Luz Developing Countries: Lessons from Stephen A. O'Connell 34303 Eight Case Studies WPS1266 An Efficient Frontier for International Sudhakar Saiyanarayan March 1994 D. Gustafson Portfolios with Commodity Assets Panos Varangis 33732 WPS1267 The Tax Base in Transition: The Case Zeljko Bogetic March 1994 F. Smith of Bulgaria Arye L. Hillman 36072 WPS1268 The Reform of Mechanisms for Eliana La Ferrara March 1994 N. Artis Foreign Exchange Allocation: Theory Gabriel Castillo 38010 and Lessons from Sub-Saharan John Nash Africa WPS1269 Union-Nonunion Wage Differentials Alexis Panagides March 1994 I. Conachy in the Developing World: A Case Harry Anthony Patrinos 33669 Study of Mexico WPS1270 How Land-Based Targeting Affects Martin Ravallion March 1994 P. Cook Rural Poverty Binayak.Sen 33902 WPS1271 Measurng the Effect of External F. Desmond McCarthy March 1994 M. Divino Shocks and the Policy Response to J. Peter Neary 33739 Them: Empirical Methodology Applied Giovanni Zanalda to the Philippines WPS1272 The Value of Superfund Cleanups: Shreekant Gupta March 1994 A. Maranon Evidence from U.S. Environmental George Van Houtven 39074 Protection Agency Decisions Maureen L. Cropper