“Centralization of political power, which is merely its release from the restraint of social sanctions, ensues, and tax levies grow apace. The political establishment — the court of Louis XIV or the equally nonproductive bureaucracy of the modern "welfare" state — thus acquires self-sufficiency; it has the wherewithal to meet its enforcement payroll and to invest in power-accumulating enterprises”—Frank Chodorov
In this issue
3 Bullseyes: TRAIN 2.0, Mining Industry, and Coco Levy; TRAIN’s Orwellian Logic: Tax Hikes Are Tax Cuts
-Bullseye 1: Shoving TRAIN 2.0 Down The People’s Throat
-Bullseye 2: Desire for Taxes May Have Prompted the Administration to Ease its Grip on the Mining Industry
-Bullseye 3: Coco Levy Bill Approved, June’s Revenue Padded
-TRAIN’s Orwellian Logic: Tax Hikes Are Tax Cuts
-Financing the New Age of Fiscal Policy: Burgeoning Public Debt and BSP QE
-M3 Plunge: The BSP Cannot Stomach the Consequence of an Aggressive Tightening
3 Bullseyes: TRAIN 2.0, Mining Industry, and Coco Levy; TRAIN’s Orwellian Logic: Tax Hikes Are Tax Cuts
Three related events last week have affirmed my analysis.
One, efforts are intensifying for the ratification of TRAIN 2.0. Two, the National Government (NG) have eased restrictions on the mining sector. And three, the Coco Levy bill now awaits the ratification of President Duterte.
Bullseye 1: Shoving TRAIN 2.0 Down The People’s Throat
First, Shoving TRAIN Down The People’s Throat.
Here is the evolution of TRAIN 2.0 from the prism of the Senate President.
Last July 28, Senate President Vicente Sotto asked officials from the Department of Finance (DoF) to convince other Senators to pass the TRAIN 2.0.
The next day, to signal the dominant sentiment of his colleagues, he expressed reluctance in dealing with TRAIN 2.0.
Two days later, a turnabout occurred, by noting that it was “very enlightening”, he voiced support for it.
In August 3, the Senate President filed an “87-page Senate Bill No. 1906 entitled the “Corporate Income Tax and Incentives Reform Act,” which seeks, among others, to lower the corporate income tax from the current 30 percent to 25 percent.”
So not only was he convinced by the DoF, the office of the Senate President managed to study and come up with an 87-page bill in less than a week! The DoF must have crafted the Senate Leadership's bill. My hunch: the Senate leadership has not read a single page from the bill.
Interestingly, the Senate President’s change of heart has coincided with the passage of TRAIN 2.0 at the House Panel. Both leaders of the Congress have now expressed support for TRAIN. The Senate President foresees its enactment before the 2019 elections.
It hasn’t been clear whether the Senate leadership’s abrupt support for TRAIN 2.0 resonated with the sentiment of his colleagues, although he “admitted that it wouldn’t pass Senate if the concerned committee weret o conduct voting for the bill right now.”
Such is a patent manifestation of unalloyed partisan power politics in motion.
Needless to say, TRAIN 2.0 represents a do or die for the Duterte administration.
TRAIN will be rammed down the throats of Filipinos
Bullseye 2: Desire for Taxes May Have Prompted the Administration to Ease its Grip on the Mining Industry
Two. The administration has eased on the mining industry because of taxes.
Didn’t I say so?
Using the repeal of the US Volstead Act, or the prohibition of alcohol sale and consumption due to taxes, I predicted the same pattern for the domestic mining industry.
When starved of funds, the government may liberalize activities that were previously prohibited.
The Era of Easy Money is OVER! President Duterte Confirmed This With “The Economy Is In Doldrums” June 24, 2018
Ironically, President Duterte thundered against the mining industry in his third SONA: “To the mining industry, I say this once again, and maybe for the last time: Do not destroy the environment or compromise our resources….“Repair what you have mismanaged. Try to change management radically because this time, you’ll have restrictive policies, the prohibition of open-pit mining is one. It is destroying my country, the environment it will destroy the world of tomorrow”
Well, what do you know? Just days after the President spoke, the Department of Environment and Natural Resources (DENR) Chief Roy Cimatu said that 23 of the 27 nickel mining firms passed the environmental audit and may continue to operate. Conjointly, Mr. Cimatu announced the lifting of the 2-year moratorium in mining exploration.
Why?
The likely answer: because the National Government has been eyeing to impose a royalty tax on the industry which is part of the TRAIN 2.0 package.
If there is no mining industry, then there will be no mining royalties. And with reduced taxes, spend, spend and spend can’t happen.
And the easing on the mining industry tell us that NG’s revenues intake haven’t been dandy at all
Bullseye 3: Coco Levy Bill Approved, June’s Revenue Padded
Such leads to the third factor, the Coco Levy Bill.
The Coco Levy bill was approved by the Congressional bicameral conference committee last week. Unfortunately, farmer groups were aghast over the bill opposing on “how to use the controversial multibillion pesos coconut levy fund”.
Everyone knows how to spend someone else’s money.
As I noted last week, a hefty share of the National Government’s incremental intake last June came from privatization, in particular, “Transfer of bond proceeds remitted by UCPB for the CIIF 14 Holding Companies to SAGF for Coco Levies”.* Such transfer constituted 39% of the year on year increase in the Bureau of Treasury’s collection last June. Without the privatization, overall collections would have grown by a puny 1.17%. And that would send the peso and bonds in a panic.
And absent that privatization, instead of Php 193 billion, the reported budget deficit bulges to about Php 207 billion, a record high!
TRAIN’s Orwellian Logic: Tax Hikes Are Tax Cuts
Again the general principle of income and corporate taxes cuts are splendid. People are supposed to keep more of what they earn. Whether they decide to save or spend or invest represents their choice. Individuals know themselves better than anyone else.
Rationalization or simplifying taxes represents a swell idea too. It leads to lower transaction and compliance costs, lessens bureaucratic labyrinth and reduces the opportunities and incentives for corruption and other unethical practices. Instead of diminishment, tax incentives should have been broadened and standardized to REINFORCE the cuts in income and corporate taxation. But that is the opposite of TRAIN 2.0.
The problem with TRAIN is that tax cuts operating under record deficits represent a political switch and bait.
Because the shift in the structure of taxes has been meant to finance an unsustainable public spending spree, the reality is that expanding tax base translates to generally higher taxes today and in the future. Debt represents future taxes. Inflation is a tax. And such would result in a decrease in the people's standard of living.
The sad part is tax cuts for some sectors have been used to camouflage tax increases in the general.
Such is the Orwellian doublespeak: War is Peace, Freedom is Slavery and Ignorance is Strength.
Tax hikes are Tax cuts.
Financing the New Age of Fiscal Policy: Burgeoning Public Debt and BSP QE
And fiscal stimulus which used to be an emergency economic tool has morphed into a developmental model.
Citing the US experience, analyst John Rubino describes the New Age Keynesianism as, (bold mine)
It’s useful to note that even Keynesianism, generally the most debt-friendly (or debt-oblivious) school of economic thought, views deficit spending as a cyclical stabilizer. That is, in bad times governments should borrow and spend to keep the economy growing while in good times governments should scale back borrowing – and ideally run surpluses – to keep things from overheating. But now we seem to have turned that logic on its head, with fiscal stimulus ramping up in the best of times, when unemployment is low, stock prices high and inflation stirring. New Age fiscal policy seems to call for continuous and growing deficits pretty much forever.
So how has the Philippine version of the New Age of fiscal deficits been financed?
Figure 1
Bureau of Treasury (BoTr) data points to a spike in June’s NG borrowings by 9.34% where both peso and USD borrowings rose 9.38% and 9.25% respectively. (upper pane)
On a monthly basis, June’s borrowings worth Php 183.62 billion represented the second largest since 2013. (mid window)
Year to date borrowings soared by Php 363.76 billion, where external debt grew by Php 226 billion while domestic debt expanded by Php 137.8 billion.
A large part of external borrowing (about 75%) has been due to the depreciation of the peso. Nonetheless, the increase in external financing translates to sustained expansion in USD shorts.
To pay for the additional external sourcing of USD domestic requirements more depreciated pesos will be needed.
The other source of NG debt financing comes from the BSP. You don’t hear this in mainstream media because it would not be politically incorrect.
Nevertheless from the BSP’s domestic liquidity report in June: “Net claims on the central government rose by 12.5 percent in June from 17.3 percent in May even as borrowings by the National Government continued to increase.”
The BSP’s Debt monetization is an inconvenient fact.
On a monthly basis, BSP financing of NG liabilities slowed to Php 366 million. Year-to-date, the BSP financed NG spending requirements to the tune of Php 181 billion
So to finance the New Age fiscal policy’s official deficit of Php 193.017 billion, the BoTr borrowed Php 137.823 billion from the capital markets, while the BSP provided Php 181.032 billion or for a total of Php 318,855 billion or 65% more than the official deficit. So either deficits have been wider than officially published or that there had been undisclosed use for these funds.
In 2017, while official deficit tallied Php 350.637 billion, BoTr’s domestic borrowings expanded by Php 471 billion while the BSP provided Php 32.18 billion for a total of Php 503.5 billion.
These surpluses demonstrate that future allocation has played a minor role. Then why the sustained excess financing?
The suppression or underreporting of the official numbers could be an explanation.
Otherwise, just where have these surpluses been funneled to?
It’s Not Just Public Debt-to-GDP, But Total Debt-to-GDP
In defense of public debt breaching the Php 7 trillion mark, the Budget Secretary said that increasing debt shouldn’t be a concern because the right metric is the debt-to-GDP.
From the Inquirer: Last Wednesday, Budget Secretary Benjamin E. Diokno reiterated that “the right metric is not the size of debt itself, but the size of debt to GDP.” “Our debt-to-GDP is about 40 percent and declining. We expect that by the end of our term, it will be 38-39 percent—we’re in good shape. If you have a debt-to-GDP ratio of 60 percent or lower, you’re in good shape. Japan’s ratio is 200 percent; the US has more than 100 percent,” Diokno noted.
This anecdote should be a noteworthy example of mainstream’s statistics is economics.
The popular idea is that public debt will not be a menace because of the vaunted GDP.
But the government doesn’t exist in a vacuum. Public debt is a product of policy. Ever since the NG launched the Economic Resiliency Plan in 2009 to shield the Philippines from the Great Recession, credit expansion shifted from the NG to the banking system.
The BSP’s accommodation, through its easy money policy, powered an artificial credit-based economic boom which provided revenues to the public sector. Thus, bank credit expansion became a critical anchor of GDP.
Figure 2
From 2009, the banking system provided a rising trend of about 2% of credit growth to generate 1% of GDP.
Thus, the banking system’s credit to GDP exploded from 26.14% in 2009 to 43.97% in 2017. But the population’s penetration level with formal credit has been low. According to the BSP’s 1Q 2017 Financial Inclusion data, only 31.3% of adults have a formal account, and only 11.8% of adults have borrowed from a formal financial institution (2014)
The low penetration level implies that the fantastic rate of bank credit growth has been concentrated, or has benefited, a few in population. This data also implies a massive buildup of leverage of their balance sheets.
Through easy money policies, the BSP became a back channel for banks to subsidize public spending.
When the Duterte administration assumed office, the economy shifted to the New Age of fiscal policy. The administration decided to steer the economic wheel away from the private sector through an aggressive buildup of politically directed commercial activities everywhere.
Its signature project: the Golden Age of Infrastructure.
So aside from private sector leverage, political expenditures necessitated a substantial increase in leverage of the public sector. Both the private and public sectors have been revving up leverage. Thus at the end of 2017, the combined debt to GDP of the public sector and the banking system totaled a breathtaking 89.11%!
At the end of June 2018, public sector debt-to-GDP (2017) was 44.17% while banking credit stood at 46.84%. The combined nominal debt of Php 14.415 trillion rockets to 91.25% of the GDP! [Bank credit at Php 7.399 trillion +public debt at 7.016 trillion]
So yes, debt-to-GDP matters especially if debt DRIVES the GDP!
Figure 3
And surging debt levels or debt to GDP would be increasingly vulnerable to rising rates
M3 Plunge: The BSP Cannot Stomach the Consequence of an Aggressive Tightening
The Bangko Sentral ng Pilipinas’ Monetary Board will meet this Thursday, August 9 to determine monetary policy.
The BSP has vowed a strong response to record high inflation. July’s CPI numbers which will be announced two days before the meeting will likely determine their stance, although the BSP earlier foresaw another CPI spike.
Perhaps, the temporary cessation of reserve requirements cuts may be part of such response. Japanese Bank Nomura predictsthe BSP to hike rates by 50 basis points.
The BSP reported a sharp drop in domestic liquidity last June: Preliminary data show that domestic liquidity (M3) grew by 11.7 percent year-on-year to about ₱11.1 trillion in June 2018, slower than the 14.3-percent expansion in the previous month. On a month-on-month seasonally-adjusted basis, M3 decreased by 0.1 percent.
Figure 4
Bank credit’s deceleration backed by the BSP’s pull back in monetizing NG’s debt has resulted in a sharp slowdown in money supply growth.
The sharp drop in June’s M3 has resonated with the deceleration in June’s tax revenue. (upper window) The paradox is that this has been happening even as bank credit expansion continues to sizzle at 19.2% in June.
This means that if the BSP tightens aggressively bank credit expansion will slow materially. And given the BSP’s path dependency or its chronic addiction to easy money, they won’t be doing this. They cannot be able to stomach its consequences.
And the last thing the BSP will tolerate is to jeopardize the administration’s ravenous desire to access the public’s savings. However because there is no such thing as a free lunch, the markets will eventually take command.
So unless we are seeing a runaway inflation, where inflation rate rises more than money supply for a sustained period, June’s downdraft in money supply, if it persists, should eventually slow CPI, which in turn will manifest itself as a downturn in Nominal GDP and earnings.
It will be 2015 redux. Shopping mall vacancies will rise again. Unlike 2015, credit issues will emerge.
Except that the coming downturn will occur in the milieu of RECORD fiscal stimulus, RECORD low-interest rate levels and RECORD high in BSP’s QE.
And any signs of a slowdown will most likely incite the BSP to use its printing press to rev up CPI. But the problem is doing so would ignite interest rates and spur the peso lower significantly.
And this will happen without boosting the economy. Stagflation will be the outcome. If I am not mistaken, the BSP’s magic wand has gone hollow.
And malinvestments must have been reached a critical mass. There will hardly be any central banks tricks to spruce up the Potemkin markets and the economy.
So TRAIN 2.0 will be forced upon us. Tightening by the BSP will be symbolic. Sustained policy interventions create not only uncertainty but compound on the distortions in the economy. Imbalances will reach a point where economics will force a market clearing process. The writing is on the wall.
