Executive Summary

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Presidential Elections To Shape Outlook For 2007 And Beyond
The key event of 2007 will be the Philippines’ May congressional elections. The results could have significant repercussions for Gloria Macapagal Arroyo’s presidency, since they could shift the balance of power in the lower house in favour of the opposition. This would raise the possibility of a successful impeachment motion being brought against Arroyo (who has survived two such attempts within the space of a year and remains hugely unpopular amongst the electorate), and at the very least could render her a lame duck president for the remainder of her term in office, as well possibly halting the progress of important reform bills. A good result for Arroyo’s political coalition, which at present holds a solid majority in the House of Representatives, could revive talk about controversial constitutional change.

Growth Should Continue, Despite Hurdles
As anticipated, adverse weather conditions took their toll on the key agricultural sector, with storms damaging crops and infrastructure, while overall growth was supported by strong exports and consumption. Agricultural output contracted by 1.6% quarter-on-quarter (q-o-q) in Q406, following a 0.4% decline in the previous quarter. However, growth in the Philippines slowed in Q406, with the economy expanding by 4.8% year-on-year (y-o-y), down from a revised 5.3% y-o-y in Q306. Positively, robust export growth continued through to the end of the year, in addition to which healthy domestic consumption, which accounts for more than two-thirds of GDP, helped drive the economy’s expansion, supported by record-high inflows of remittances from overseas Filipino workers. Remittances are estimated to have reached at least US$12.3bn in 2006, according to the government.

The outlook for growth this year has improved. While the projected slowdown in the global economy will slow Philippine export growth, overall expansion will be supported by strong domestic demand, as investment revives and consumption remains strong. Furthermore, the US tends to influence demand for electronics exports, which make up over half of the Philippines’ total overseas shipments. Nonetheless, despite our forecast for a slow down in growth in the US, we foresee only a moderate slowdown in global growth, and demand from Japan and China should remain strong this year. As such, Philippine export growth will remain healthy.

The Commercial Banking Sector
In an attempt to improve the banking sector, the government has introduced stricter banking regulations under the Basel II accord. The accord, which will be implemented by July 2007, will help to ensure that financial institutions have enough capital against risky ventures to prevent bank failures. In addition to the implementation of such measures, there is a high degree of discipline relative to other Asian countries in the lending practice of the central bank.

Overall, however, the financial services industry has remained stagnant. At September 30 2006, total assets, loans and deposits amounted to US$81.4bn, US$32.7bn and US$58.3bn, respectively. All three measures indicate that the Philippines’ banking sector is still very small and one of the smallest amongst the countries surveyed by BMI. In local currency terms, asset growth was 5.8% over the preceding year. By this measure, the Philippines was the 54th ranked country of the 59 for which we have compiled information this quarter. Loan growth was also low at 6.3%; by this measure the Philippines was the 54th largest country in our survey. Deposit growth was also low, at 11.2%; by this measure, the Philippines was the 43rd largest country in our survey. Deposits per capita currently amount to only US$690. At September 30 2006, the loan/deposit, loan/asset and loan/GDP ratios were 56.1%, 40.2% and 27.9%.

Relative to the corresponding ratios in other countries, all three are fairly low. Of the 59 countries for which we have compiled information, the Philippines has the 54th highest loan/deposit ratio, the 45th highest loan/asset ratio and the 50th highest loan/GDP ratio. These ratios imply that the banks are expecting weak performance in the corporate sector.

Philippine banks appear, collectively, to hold bonds worth US$25.5bn; it seems that the banks’ bond holdings rose by 5.1% over the year to September 30 2006. The banks’ bond holdings amount to about 31.3% of total assets. This is a very high ratio of bonds, suggesting that bank lending is being heavily directed towards the government rather than the commercial sector.

Press Reports
Recent reports in the Philippine and international press have generally reflected two key issues, both to do with the steady recent growth of the Philippines’ economy. Firstly, commentators have noticed the increasing value of remittances sent back to the Philippines by its vast army of overseas workers – estimated to be around US$12.3bn last year, and the proportional increase in the value these remittances are adding to the Philippines’ economy. Estimates put the number of Filipino workers abroad at over 10mn, with another 1mn departures in 2006. Workers are increasingly likely to take up skilled and semiskilled posts in areas such as engineering and nursing, raising the value of remittances flowing back into the economy. Additionally, many foreign workers are starting putting their money to work, investing in housing and real estate ventures for example.

his has been helped by what commentators agree is the emergence of the Philippines’ commercial banking sector from a difficult period of characterised by regulatory changes, recapitalisation programmes, high inflation, political instability and other pressures. Mergers within the sector have resulted in new, larger domestic banks, better able to meet foreign competition. Recapitalisation programs are beginning to bear fruit, and are being assisted by an increased demand for remittances, as well as for long term loans for low-end properties, such as from overseas workers. These have helped banks consolidate after meeting new financial regulations, namely the International Accounting Standards (IAS) and Basel II.