Constitutional political economy of foreign investment in the Philippines

Originally livestreamed on the Facebook page of The CoRRECT Movement on February 21, 2021 (the 35th anniversary of EDSA), this discussion with Orion Perez Dumdum covers the political economy of constitutional restrictions on foreign ownership in key sectors of the Philippines. CoRRECT stands for Constitutional Reform and Rectification for Economic Competitiveness and Transformation. It is a study group that espouses reforms in the Philippine Constitution of 1987.

The show notes used to structure the discussion are found here.

Dilawan: Rise and fall of the EDSA regime - Duterte and the Next Wave

            

If Marcos was the logical conclusion of the Old Republic, which was built on a feudal society, where “a few enjoyed the fat of the land, and the many suffered”, then the natural extension of our post-EDSA republic, with its monopolistic capitalist model, is Duterte. The internal contradictions of each society ultimately brought about the conditions for the emergence of these leaders.

The lost opportunity of EDSA was that rather than building a more just and humane society, we simply re-incarnated the old one with the result of entrapping many Filipinos into a life of servitude to the vagaries of the market, as we pursued a neoliberal model of development.

Dilawan: Rise and Fall of the EDSA Regime - Uno, Dos Tres

"I am the Market and thou shalt have no other models before me."

That is the first commandment of neoliberalism, an ideology that took root in the Philippines after the February 1986 people power revolt at EDSA.

In this series on the Rise and Fall of the EDSA Regime, we’ve been looking at the origins of the yellow movement and its impact on Philippine society. 

Obama Seeks to Curb Outsourcing

With 2012 being an election year, President Obama set out to frame his re-election bid in November around the economy. Having cited employment and productivity gains of late, he then targeted his ire on tax incentives offered to multinational companies for outsourcing business activities overseas.

The following is an excerpt from his State of the Union Address:

If you’re a business that wants to outsource jobs, you shouldn’t get a tax deduction for doing it. That money should be used to cover moving expenses for companies...that decide to bring jobs home.
Second, no American company should be able to avoid paying its fair share of taxes by moving jobs and profits overseas. From now on, every multinational company should have to pay a basic minimum tax. And every penny should go toward lowering taxes for companies that choose to stay here and hire here.
Third, if you’re an American manufacturer, you should get a bigger tax cut. If you’re a high-tech manufacturer, we should double the tax deduction you get for making products here. And if you want to relocate in a community that was hit hard when a factory left town, you should get help financing a new plant, equipment, or training for new workers.
It’s time to stop rewarding businesses that ship jobs overseas, and start rewarding companies that create jobs right here in America. Send me these tax reforms, and I’ll sign them right away.

 Just as he decried the uneven playing field that countries like China have created by undervaluing their currency, he advocated the use of the tax system to provide credits and government subsidies to industries (particularly in the clean energy and advanced technology sectors) as a way of ensuring that America was "built to last". All this was part of the solution in addressing what he called "the defining issue" of his presidency--keeping the American dream alive.

Well, well, well, it seems that Washington is no longer enamored with the Washington Consensus. As it pushes for free trade agreements across the globe to lower trade barriers for its products and to enforce the intellectual property rights of its companies, it is clear that the administration has no qualms about engaging in market interventions at home to boost the competitiveness of its local industries.

Fallacies

Which among the following pairs of countries would you consider to have a larger share of their exports in high-tech manufactures:

a. Korea or Japan 

b. Philippines or Singapore 

c. China or the United States 

d. Mexico or Germany 

The answers are found below: a. Korea b. Philippines c. China d. Mexico 

Surprised? Certainly these facts run counter to the commonly held beliefs about rich and poor countries. The most intriguing insight in all this is that the Philippines, the poorest of the four emerging countries just cited, long considered a laggard in its region as far as exports and investments are concerned, has emerged as a world leader in this regard, edging out Singapore, the former front-runner since 1996. See for yourself here. 

Other interesting observations are: (1) China has been ahead of the US since 2005, (2) Korea has led Japan since 1997, and (3) Mexico has edged out Germany since 1994. Safe to say, the strong performance of these emerging economies over their richer peers cannot be considered a fluke or the result of luck. In economic terms, a "structural shift" has occurred in these economies which have traditionally been exporters of cheap, basic commodities. 

What accounts for this increasing specialization in high-tech manufactures by emerging economies? More importantly, what does it say about their future prospects for growth? Is it a healthy sign or is too much specialization counter-productive? 

Let us first define what high technology means in this context. According to the World Bank definition, these manufactures include "products with high R&D intensity, such as in aerospace, computers, pharmaceuticals, scientific instruments, and electrical machinery" or in other words, products with a high innovation component. 

In the Philippines, electronics is the biggest contributor to exports accounting for about 60%. They consist of a wide variety of products with different applications from consumer, auto, office, computer related, to telecommunication, medical and industrial uses. Data from the National Statistics Office for 2008 and 2009 show the value of electronics exports exceeding $20 billion per year, while imports are roughly 68-70% of their totals. This runs counter to the common perception that these domestic industries belong to the low value adding category. 

According to Ricardo Hausmann from the Center for International Development at Harvard University, a professor of the Kennedy School of Government, the complexity of products made by a nation is a reflection of the capabilities that exist within it. Nations that produce highly elaborate products have exhibited the ability to grow and develop due to the fact that very few countries are able to replicate the same conditions required by such activities (here he is explaining his theory of development based on this notion). 

It is more than a question of incomes or wealth. Sri Lankans have an average income slightly above Filipinos, yet their major exports are in textiles and garments. The lack of infrastructure, rule of law and good governance does not seem to deter the presence of high-technology industries in the Philippines. The abundance of engineers and highly skilled, flexible workers appears to be the main driving force.

The Development Trap

In his weekly column Cielito Habito has been following the jobless growth phenomenon that plagues a number of developing states like the Philippines. This was evident in the first quarter figures for 2010 which showed that just as the economy expanded by 7.3%, unemployment rose by 300 thousand. The country's growth did not translate into a lower unemployment rate. Habito rhetorically poses the question

Where did the impressive first-quarter growth come from? (...M)oslty from petroleum refining, electronics and processed food (...P)etroleum refining is (...) an industry not particularly known to be job-rich (...) Electronics (...) is an industry with almost zero linkages elsewhere in the economy. 

(...) The message is clear: We need economic growth that widely involves and benefits more industries, more geographical areas and more sectors of society—not the narrow, shallow and hollow growth ... in recent years (emphasis added).

This paints the picture of a dual economy where growth and opportunity are restricted to a few enclaves to the exclusion of the vast majority of participants. In recent years, the Philippine macro economy has been on solid footing. Just as some beleaguered European nations were applying for IMF assistance, the Philippines was exiting from its supervision after a thorough process of market liberalization, privatization and deregulation.

Having finally weened itself off the assistance of the DC-based institution, the country can now begin to chart its own development path without the policy impositions of the Washington Consensus. One silver lining  from the recent North Atlantic crisis according to Robert Wade is the opportunity to re-examine strategies for promoting industrial development, a recognition that other paths, for instance the BeST consensus (from Beijing, Seoul and Tokyo), are equally if not more viable. He explains that

(o)n the face of it, raising the state's capacity to coordinate a selected set of economic agents is a more feasible task than across-the-board formalization and enforcement of the rules - a task which requires high fixed costs and many decades, and which often provokes fierce resistance, especially from those already in the elite.

(...) Concrete manifestations of this kind of institutionalized coordination include Japan's MITI, Taiwan's Economic Planning Council and its Industrial Development Bureau, South Korea's Economic Planning Board, Singapore's Economic Development Board; and also numerous industry associations.

In contrast to "developmental state" forged by its East Asian neighbors, the Philippine state in its post-independence, pre-martial law incarnation was corrupted from the bottom-up as

the big landed families (...) used personalized rules of the game to obtain political protection in order to oppose industrial transformation, and used corruption to protect their existing sources of rents.

(...D)emocratization has somewhat restrained a state which under Marcos plundered from the top down, and has moved the nation a little way in the direction of a joint state-business project of a developmental state.

A typical developmental state would not score highly against the World Bank governance indicators based on the experience of East Asia. This is because in a bid to foster more inclusionary growth, state officials may have to actively steer the value stream of investors who might otherwise not source from local firms. This might require gentle nudging and incentives to begin with to strong arm tactics to get their message across as in the case of Taiwan, where

(t)he Industrial Development Bureau (IDB) officials in charge of ... specialised glass considered that at least two Taiwan glass makers could meet the price and quality of the glass imported by the Philips TV factory if given a long-term supply contract and some technical help.

(...) Philips (...) refused to consider the idea, saying it was happy with its existing arrangement to import from a Philips factory elsewhere. But then Philips began to experience delays in authorization to import the glass, which previously had been granted without delay. Philips protested. The delays lengthened. The IDB officials reminded Philips of the advantages of switching to domestic suppliers ... eventually Philips got the message, entered into a long-term supply contract with a domestic producer and in so doing built up goodwill in the IDB.

This example demonstrates that while generous tax concessions and free trade areas might foster foreign direct investments in specific industry sectors, they do not inevitably lead to greater industrial diversification. Pro-active and sometimes robust engagement with industry is required in order to accomplish that.

Among the organizational features of a developmental state observed by Wade are the targeted improvement of state agencies in charge of industrial policy, the fostering of a public service mindset among its officials, the bifurcation of political patronage channels and economic bureaucracy so that the former do not affect the latter and an industrial extension service with tight limits on the use of discretionary resources.

With the weak fiscal position awaiting the incoming government of Benigno Aquino, the immediate task of shoring up the budget situation is imperative. But in order to simultaneously pursue his vision of good governance and the rule of law, a more targeted approach than would otherwise be recommended by the good governance (GG) adherents of the Washington Consensus is required. One which would make more judicious use of limited public resources in building up state capacity towards more inclusive development.

Humans v Rats v Monkeys

This is a case of how “heuristic bias” in humans (a preference for rules of thumb in decision-making) and hubris proved to be their undoing when pitted against rats and monkeys in two experiments. The lessons drawn have implications for anyone engaged in economic development and industrial policy.

Prominent development economist Bill Easterly was not joking when he recently blogged that “rats outperform humans in interpreting data.” He was referring to the experiment recounted in Leonard Mlodinow book The Drunkard’s Walk in which rats and humans were pitted against each other and made to draw green and red balls at random. With probabilities rigged in favour of greens, they were made to predict the colour of the balls drawn after observing the process.

Surprisingly, the rats came out on top:

The rats followed the optimal strategy of always predicting green (I am a little unclear how the rats communicated, but never mind). But the human subjects did not always predict green, they usually want to do better and predict when red will come up too, engaging in reasoning like “after three straight greens, we are due for a red.” As Mlodinow says, “humans usually try to guess the pattern, and in the process we allow ourselves to be outperformed by a rat.”

This experiment is reminscent of the 14 year exercise initiated by the Wall Street Journal which tested Princeton Prof Burton Malkiel’s thesis contained in the book A Random Walk Down Wall Street that

a blindfolded monkey throwing darts at a newspaper’s financial pages could select a portfolio that would do just as well as one carefully selected by experts.

After 100 iterations of the game, the results showed that while the analysts came out on top, the margin was embarrasingly low, 61-39. One funny way to express this finding would be to say that when it comes to “picking winners”, “monkey see, monkey do” works fine.

Easterly whose stint in the UN led him to take a dim view of so-called “growth experts” has sparked robust discussions with the likes of Jeffrey Sachs of The End of Poverty fame over the effectiveness of international development projects and Dani Rodrik author of One Economics, Many Recipes over the appropriateness of industrial policy.

In terms of developing growth strategies, Easterly’s advice has been to forego well-intentioned interventions emanating from the top (whether they be the in the form of a "big push" for public investment ala Marshal Plan or "shock therapy" ala Sach's approach of introducing market-based institutions to ex-Communist regimes). Easterly’s most recent book contrasts "planners" and "searchers". The former use the instruments just mentioned to (not) achieve their goals. The latter rely more on local feedback and accountability with

lots of political and economic competition with freedom of choice of consumers, investors, and voters.

The belief is that there is no use second-guessing what works when the local market for ideas performs more efficiently and contains more information than the calculations of a detached planner no matter how sophisticated his heuristic models might be. The fact which all these experts agree on is that public investments and industrial policy may have been partly responsible for economic development in some cases in the past. Where they part ways is on whether experts can identify with any reliability the means with which to implement them in different situations in the future.