Upgrades Well Deserved, But Fiscal Progress Becoming More Difficult
BMI View: The Philippines continues to garner substantial sovereign credit rating upgrades, and we believe that there is a strong possibility that the country could finish 2013 with an investment grade rating from all three agencies. That being said, the government's path to fiscal prosperity will likely prove to be more difficult now that the low-hanging fruit has largely been plucked, and we note once again that more structural reforms will be necessary in order to solidify the country's strong fiscal and economic trajectory.
The Philippines has enjoyed a surging economic profile over the past twelve months, and the sovereign's position has been bolstered considerably as a result. While we have long held that the Philippines had acceded to the pantheon of investment grade countries as a result of its manageable external debt dynamics and generally positive fiscal trajectory, this notion was only recently reaffirmed for the first time by major ratings agencies Fitch (in March 2013) and Standard & Poor's ( S&P, in May). Likewise, rhetoric from the last major ratings agency to hold the Philippines below investment grade, Moody's, continues to indicate that an upgrade to investment grade is likely in the offing.
Debt Metrics Looking Strong
In particular, the Philippines has achieved a rapid reduction in its exposure to external financing, with total external debt dropping to an estimated 30.5% of GDP by the end of 2012 versus 59.8% just seven years prior. In addition to more responsible borrowing initiatives, the sovereign's debt position has been strengthened by the economy's above trend expansion (real GDP grew by 6.8% in 2012), which has not only helped to reduce debt in GDP terms, but also by supporting government revenue intakes. Since 2005, revenue growth has averaged 10.5% per annum, even in the face of a 6.6% decline in 2009.
|Well Balanced, But Room For Improvement|
|Philippines - Total Government Revenue & Expenditure, % chg y-o-y & Fiscal Balance, % GDP|
But Revenue Collection Still A Concern
However, the government still has a long way to go in shoring up tax revenues, and faces a particularly tall task in its efforts to crack down on rampant tax evasion. In 2011, the government estimated that approximately PHP40bn is lost each year to tax evasion, representing approximately 3.5% of the government's total revenue for the year. According to the National Economic Development Authority (NEDA), this figure is likely to be substantially larger in consideration of the fact that approximately 43% of the economy's output originates in the 'underground economy' in which businesses are not registered with the Bureau of Internal Revenue (BIR) and therefore do not pay any taxes.
In order for the government to continue to achieve such high rates of revenue growth, the BIR will also need to sharpen its efforts in broadening the tax base. According to Finance Secretary Cesar Purisima, 61% of the government's revenue in 2012 came from the country's largest 2,000 companies or individual tax payers, out of a nationwide total of 820,255 businesses. Similarly, only about 22% (or 403,000) of the country's 1.8mn 'self-employed persons' were tax payers, indicating another large and untapped pool of potential revenue.
Notably, we expect the government to see continued high rates of growth in tax revenue over the next five years, at a forecasted average clip of 11.4% per annum through to 2017. However, this rate is in large part a result of low base effects, with total government revenue currently comprising just 12.9% of GDP. With expenditures set to rise by a forecasted average of 9.4% per annum through to 2017, we continue to believe that the government will maintain a healthy spending balance, and project the fiscal deficit to average a moderate 1.8% of GDP through this period.
That being said, the government still needs to prove that it can be more aggressive in increasing its revenue intake as a proportion of the economy. Government spending in critical areas such as healthcare, education, and infrastructure remains insufficient in light of the Philippines' deficiencies in these areas, as well as for the country's development level.
|Heading In The Right Direction|
|Philippines - Total External Debt Stock & Total Government Debt, % GDP|
Broader Fiscal House In Solid Form
The aforementioned concerns will be somewhat more difficult to tackle than the relatively low-hanging fruit that the government has, to some extent, already plucked. To be sure, we believe that there is a strong possibility that the Philippines will finish 2013 with an investment grade rating from all three major ratings agencies, and rightfully so given the solid form of the country's broader fiscal, political, and economic position. However, we also continue to note that substantive improvements to the country's fiscal and sovereign outlook will become progressively more difficult over the coming years, with a greater emphasis on structural, long-term reforms that can lay the foundation for an extended period of rapid economic expansion.