Financial Crisis Impact on the Philippines

UNCLAS SECTION 01 OF 03 MANILA 002725 SENSITIVE SIPDIS STATE FOR EAP/MTS, EAP/EP/ EEB/IFD/OMA STATE PASS EXIM. OPIC, AND USTR STATE PASS USAID FOR AA/ANE, AA/EGAT, DAA/ANE TREASURY FOR OASIA E.O. 12958: N/A TAGS: EFIN ECON ECIN RP CN XE XD SUBJECT: Financial Crisis Impact on the Philippines REFS: A) Manila 2532, B) Manila 2174, C) Manila 2340, D) Manila 1050 SENSITIVE BUT UNCLASSIFIED ¶1. (SBU) Summary: Philippine GDP growth will slow, some jobs will disappear, and poverty will increase, but the global financial crisis will not create an economic or balance of payments crisis here (Ref A) in 2009. The business process outsourcing industry will continue its spectacular growth, while export industries will suffer. The global crisis has intensified calls to enhance the investment and business climate and the government has decided to increase its spending. End Summary. Economic Growth Slowing -------------- ¶2. (U) Philippine Gross Domestic Product (GDP) growth has slowed this year from 2007's 7.2% three-decade high, but grew 4.6% year-on-year through the third quarter. The Philippines is not among Asia's highly open or export-oriented economies, and this lack of integration into the global economy has blunted the overall growth impact of a sputtering export sector dominated by the low (30%) local value-added electronics industry. Personal consumption has slowed due to high inflation (which hit a high of 12.4% in August) but continued strong remittances from Overseas Filipino Workers have helped cushion what could have been a sharper growth slowdown. Acceleration in third-quarter public sector and construction expenditures also helped prop up the economy. The government has officially abandoned its balanced budget goal for 2008, opting for higher deficits this year and in 2009 equivalent to roughly 0.9% and 1.2% of GDP, respectively, to help support economic growth and employment. Private sector investments in durable equipment were up 6.5% year-on-year in real terms during the first six months, but posted flat year-on-year growth during the third quarter. Room for Monetary Easing? -------------- ¶3. (SBU) The current consensus is that the Philippines will avoid a recession but growth will slow to under 3.5% next year. With year-on-year inflation down to 9.9% in November, Central Bank officials may reduce policy rates at their December 18 meeting from 6% (reverse repurchase) and 8% (repurchase) currently. Although the Philippines has limited direct exposure to investment products issued by troubled foreign financial institutions (Refs B and C), Philippine Central Bank Deputy Governor Nestor Espenilla, in a meeting on December 5, predicted bank profit margins will drop and non-performing loan ratios will increase. The latest data on credit card debt showed a 20% quarter-on-quarter nominal expansion in non-performing loans between March and June, from 10.4% to 11.6% of credit card receivables. However, Espenilla noted that credit card loans make up barely 5% of total loan portfolios and he does not see overall NPL ratios rising beyond 7% next year, nowhere near the 18%-19% Asian crisis peaks. ¶4. (SBU) According to Espenilla, banks have become more cautious in their lending during the fourth quarter, but there is no credit squeeze and banks are competing aggressively for credit-worthy borrowers (automotive and real estate industry contacts confirmed this in separate conversations with econoffs). The Deputy Governor noted that capital adequacy ratios (currently averaging 14%) remain comfortably above international (8%) and Central Bank-mandated (10%) benchmarks. He added that the Central Bank has not heard thus far of any major retrenchment plans, commenting that Citibank and HSBC, for example, were even expanding their business process outsourcing operations here. Although eight rural banks recently declared bank holidays, their financial problems appear mainly to have been a consequence of mismanagement (i.e., most of the closed banks reportedly share the same owners). The rural banking segment comprises barely 3% of total banking system resources and the recent bank closures do not pose systemic risk. Balance of Payments Surplus; Foreign Investments Down -------------- -------------- ¶5. (U) The Philippines ended 2007 with a balance of payments surplus at a historic high of $8.7 billion, but this had narrowed to under $350 million as of October 2008 due to lower foreign direct investment, outflows of foreign portfolio capital, weak exports, and high import costs for fuel and rice. The latest statistics show a 46% year-on-year decline to $1.4 billion of net foreign direct investment through September, and $1.5 billion in net withdrawals of MANILA 00002725 002 OF 003 portfolio capital through November. Exports rose by 1.9% during the first ten months of the year, but recorded a sharp 15% decline in October (the worst performance in seven years). International reserves stood at $36.2 billion as of November, up 7.1% from end-2007 and equivalent to 5.7 months worth of merchandise and service imports and 2.5 times foreign obligations falling due over the next twelve months. Central Bank contacts noted that fuel and food prices are softening, and a fall in import components will partially offset the fall in electronics exports. Whereto Remittances? -------------- ¶6. (U) Philippine observers express deep concern about the potential impact of a "synchronized recession" around the globe on worker remittances which, at 11% of GDP, are an important stabilizing factor in the Philippine economy. Remittances were over 17.2% higher year-on-year as of September and should exceed $16 billion by yearend. Officials from the three largest commercial banks have indicated that fourth quarter remittances remain brisk. ¶7. (SBU) In a meeting on December 11, Deputy Administrator Viveca Catalig of the Philippine Overseas Employment Administration estimated that about 500,000 overseas workers, primarily seafarers, domestic helpers, tourism and hospitality workers, export-oriented factory workers, and low-skilled service employees, are vulnerable to the global crisis. Of this number, the administration estimates that 50,000 to 100,000 (1% to 2% of Filipino workers overseas) may be unable to find alternative employment abroad. ¶8. (SBU) Others here fear that downward pressure on oil prices could eventually affect construction and other jobs in the Middle East, which account for about half of overseas employment. For now, according to Catalig, some 450,000 jobs are waiting to be filled by Filipinos next year (including more than 100,000 in the Middle East) and more are under negotiation, many for higher-paid professionals and skilled workers. Current expectations are for a slowdown to single-digit growth, rather than contraction, in 2009 remittances. Electronics Sector: Gloomy Prospects -------------- ¶9. (SBU) Electronics exports, which account for nearly a third of Philippine export revenues, dropped by a sharp 18.9% in October. Ernesto Santiago, the president of the electronics industry association here, told econoffs in a meeting on December 4 that the situation had turned from "challenging" to "terrible" with sharp declines expected during the fourth quarter and "grim" prospects for ¶2009. Tight credit overseas is an increasingly serious concern. According to Santiago, some semiconductor companies report that about 15% of their customers, mainly small- and medium-sized firms, were unable to obtain financing for normal operations. Santiago does not expect electronics exports in 2009 to drop as sharply as in 2001, when export revenues shrank by 22% and 18,000 workers lost their jobs, but noted that several hundred workers have already been laid off in recent months from the industry's 450,000-strong direct labor force and that many companies plan shorter work weeks and fewer work shifts. Business Process Outsourcing: Prospects Remain Bright -------------- -------------- ¶10. (U) In a meeting with econoffs on December 9, the Business Processing Association of the Philippines' Director for Information and Research Gigi Virata said that the industry remains on track to hit its 40% revenue growth target for 2008, to $6.8 billion. The industry's employee base has increased by more than 36% year-on-year to more than 400,000. The Association expects to generate more than 100,000 new jobs in the sector. Virata cited U.S. firms Accenture, Convergys, and Teletech as among companies planning to expand operations next year. Citigroup, HSBC, and JP Morgan Chase also plan to expand back office operations here. Shell will move all of its back office operations to the Philippines in 2009. The Philippines has already captured 8% to 9% of the global business process outsourcing market, according to Virata, and is well on its way to achieving the 10% global market share targeted by 2010. Some observers believe that the terrorist incidents in Mumbai, India will hasten the migration of higher-end services to the Philippines from India, a trend they were already seeing. Soft Labor Market and Poverty -------------- MANILA 00002725 003 OF 003 ¶11. (SBU) Although the Philippines does not face a meltdown, the economic slowdown and aversion to risk during uncertainty will threaten domestic job opportunities for the one million or so annual new entrants to the Philippine labor force. Officials from the Employers Confederation of the Philippines fear that only 500,000 new jobs will be created next year while between 200,000 to 250,000 workers risk displacement. This will push more Filipinos into the informal economy and worsen already high poverty rates. ¶12. (U) The latest Philippines poverty survey, conducted in 2006, showed poverty has increased to engulf about a third of the population (Ref D). Poverty is likely to have increased even more after this year's spike in food prices. According to a recent World Bank impact analysis, every 10% rise in food prices increases the Philippine poverty rate by two percentage points. Using the World Bank's formula, Philippine poverty may have increased further by about 3.3 percentage points (to roughly 36.2%) in 2008 -- equivalent to another five million more poor Filipinos. This number seems likely to increase further next year. Hazy Prospects Demand Reform -------------- ¶13. (SBU) Global financial problems provided fresh impetus to stalled financial market reforms. In August, President Gloria Macapagal-Arroyo signed the Personal Equity and Retirement Account Act into law, establishing a regulatory framework and tax incentives for retirement plans to attract savings. The President also recently signed the Credit Information Systems Act to facilitate access to affordable capital by providing financial institutions access to information on borrowers' credit histories. Foreign business chambers are pushing for measures to address floundering competitiveness rankings, curb corruption, reduce bureaucratic red tape, and boost public sector spending to blunt the impact of the global crisis on the economy. They note the estimated 40% to 50% of taxes that still escape collection as another area for improvement. ¶14. (SBU) Comment: The relatively inward-looking Philippine economy is more insulated from the global financial crisis than neighboring export-oriented economies. However, less globalization it is also a key reason for the long-term inability of the Philippines to control its rising poverty rate. As we reported ref D, it is spectacular, startling, and discouraging that Philippine poverty increased from 2003 to 2006, which were good years for the Philippine economy. Without further reform and a greater opening to the world, it is likely that the Philippines will fall further behind its neighbors when they begin to come out of the current economic difficulties. Kenney