Can the Philippine Economy Keep it Up?

UNCLAS MANILA 000367 SIPDIS SIPDIS SENSITIVE 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 USDOC FOR 4430/ITA/MAC/ASIA & PAC/KOREA & SE ASIA/ASEAN E.O. 12958: N/A TAGS: ECON EFIN ETRD EINV PGOV RP SUBJECT: Can the Philippine Economy Keep it Up? Ref: Manila 10, Manila 209 -------------- Summary -------------- ¶1. (SBU) As we reported ref A, 2007 was a very good year for the Philippine economy which, according to final numbers, grew at 7.3%. While concern is widespread over the impact on exports of slowing global demand and the strong peso, the rapid growth in services, remittances, transport, construction, and mining will likely continue and keep GDP growth at around 6%. End Summary. -------------- Overall Macro Performance -------------- ¶2. (U) The Philippine economy grew at its fastest pace in three decades in 2007, with real GDP growth estimated at 7.3%, lower unemployment and inflation, and improved government revenues. Higher government spending contributed to this higher growth rate, but a resilient and growing service sector and large remittances from the millions of Filipinos working abroad play an increasingly important role in the economy. ¶3. (U) In 2007, personal consumption fueled the economy's growth on the demand side, aided by over $14 billion in remittances from overseas Filipino workers, equal to about 11% of GDP. Increased government construction expenditures (up 30% in real terms),made possible by tax increases in recent years, was another factor in the growth. Private construction investment grew about 10%, boosted in part by overseas workers' investments in real estate, the demand for office space from the booming business process outsourcing industry, and lower interest rates. -------------- Service Boom Likely to Continue -------------- ¶4. (U) The services sector grew at 8.7% in 2007 and services now account for about 55% of Philippine GDP. Business process outsourcing, information technology services, medical and legal transcription services, animation services, design, architectural and engineering services are all part of the offshore and outsourcing industry. Outsourcing has been the fastest segment of the Philippine economy, with growth in the past two years of 40% and predicted to grow another 40% over the next two years. The head of the Business Processing Association of the Philippines told us that there is a huge, still largely untapped global market for these services. ¶5. (U) Current Business Processing Association plans call for the Philippines to capture about 10% of the global outsourcing market, employ one million persons, produce about 8.5% of the country's GDP, and rival overseas remittances in economic importance by 2010. Already, the rapid growth of this industry is fueling shortages in prime office space in several major Philippine cities (in response, the construction industry grew by almost 20% in 2007). There has also been a significant positive impact on communications, data storage, and other information technology sectors that support outsourcing businesses. The Association believes that an economic slowdown in the United States could be good for the outsourcing industry, since U.S. companies would accelerate cost-cutting measures such as outsourcing. ¶6. (U) Tourism and mining are also emerging as key industries. 2007 was a record year for tourism with over 3 million arrivals from overseas spending more than $5 billion and fueling air transportation growth of 15%. Mining and quarrying grew by 25%. Philex Mining Corporation, the country's largest in terms of market value, reported a 62% increase in net income to $120 million on the back of higher metal prices and volumes sold. -------------- Effects of High Peso -------------- ¶7. (U) From January 2007 through January 2008, the peso strengthened by more than other regional currencies; about 19% versus the US dollar. The Government pre-paid foreign denominated obligations, relaxed ceilings for foreign exchange purchases, and built-up international reserves, partly to stem the peso's rapid appreciation. Local and foreign business people, including outsourcing centers, have told us that the appreciation in the peso over the past year was making some business operations in the Philippines unprofitable because of the increased cost of local inputs. ¶8. (SBU) American executives in Cebu told us that a number of local furniture companies have been forced out of business because the strong peso made it impossible for them to compete with other regional manufacturers. Business people in northern Mindanao told us that exporters of dried banana chips are unable to make money on contracts priced in dollars, and have stopped purchasing bananas from local farmers. An official at the Korean Chamber of Commerce told us that the value of the peso was "killing" the manufacturing sector here. To the extent that the peso continues to appreciate more rapidly than currencies in neighboring countries, there will be a negative effect on the competitiveness of Philippine exports and the attractiveness of the Philippines as an investment destination. -------------- Slowing Investment and Growth -------------- ¶8. (SBU) Investment is expected to slow this year from levels (as a percent of GDP) already lower than in neighboring countries. Economists expect Philippine GDP growth to slow from 7.3% last year, but to still achieve decent growth of 5-6% in 2008. Overseas Filipino worker remittances are expected to be a stabilizing factor against a possible slowing of U.S. economic growth given the dispersion of Filipino workers (about 500,000 Filipinos work in the Middle East). Some economists speculate that remittances may increase to partially compensate for the more expensive peso. -------------- Comment -------------- ¶9. (U) The rate of investment in the Philippines must be increased to achieve sustained growth in a stable macroeconomic environment. The possibility of slowing global economic growth, a strong peso, and uncertainty in international financial markets present formidable new challenges to sustained rapid economic growth. Export industries which rely on consumers in developed countries may be hard hit. However, the Philippines has a relatively robust domestic economy compared to neighboring countries, with domestic demand fueled by remittances, an expanding service sector, and newly middle class tourists from nearby countries. The trends of economic globalization play to the strengths of the Philippines such as relatively high levels of English and technical skills, and technologies that allow services to be performed at a distance. Kenney