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On China As a Model for the Philippines (Fabella Review Addendum)

In the book Capitalism and Inclusion under Weak Institutions, reviewed in a previous post, author Raul Fabella points to a lack of social coherence in the Philippines as undermining economic progress and contrasts this with the Chinese case where "a strong sense of identity and mission" has propelled phenomenal economic growth. Judging by differences in receptivity to the statement "most people can be trusted", Fabella may be onto something. Survey results presented in Figure 1 show 62.7% of Chinese agreeing with this statement versus just 2.8% of Filipinos. Personally, I am mystified by these results having spent many years in both countries and not finding Filipinos any less trustworthy than Chinese. Yet the results do lend credence to Fabella's thesis.

Source: Our World in Data

 

Fabella argues that lack of social coherence makes for an inability to provide collective goods, both the norms and rules that govern human behavior and the physical infrastructure that supports business enterprise. Poor infrastructure is particularly crippling for the development of manufactured exports to the detriment of poverty alleviation, in Fabella's telling. China is seen as the model for getting this process right: a shared sense of commitment; massive investment in infrastructure; an export manufacturing juggernaut; and hundreds of millions lifted out of poverty. 

Let us unpack the China comparison. A high investment rate with a substantial infrastructure component has indeed been foundational to China's development model. During the 2010s, China's investment rate averaged 44.2%. With that, the country achieved annual GDP growth of 7.8% for an incremental capital-output ratio (ICOR) of 5.7, meaning growth came at a fairly high cost. The Philippines' investment rate for the decade was only half that of China's at 22.8%. Yet it's GDP growth rate reached 6.4% for an enviably low ICOR of 3.6. In fairness, China's ICOR during the 2000-aughts was a comparable 3.7. In the more recent decade, however, China has become dependent on high investment to sustain aggregate demand even as the return on that investment has deteriorated.

Data Source: International Financial Statistics


Data Sources: World Bank World Development Indicators (2019) and Doing Business (Trading across Borders ranking, 2020) databases. 


 Data Source: UNCTAD (2018)

This is not to dispute Fabella's point that the Philippines needs to increase investment, and in particular investment in infrastructure. The country has in fact made progress on that front over the last decade, as Figure 2 shows. The investment rate has risen from around 20% early in the decade to more than 27% in the last two years, with public investment contributing 2-3 percentage points of the increase. Of note though, a higher investment rate should not be taken as an end in itself, but rather as a means to a better future, and by that standard China's path is beyond worthy of emulation.

Another feature of the China model has been reliance on manufactured exports to drive growth. China's goods exports as a share of GDP peaked at 32.6% in 2006 with the ratio falling to 16.7% by 2019. Goods exports for the Philippines in 2019 amounted to 14.2% of GDP. Indonesia's ratio is comparable while those of Thailand, Malaysia, and especially Vietnam are much higher, as Figure 3 shows. The Philippines stands out for its exports of both produced services and factor services, the latter capturing the earnings of more than 10 million overseas Filipino workers (OFWs). Filipinos tend to see OFWs as a supply-push phenomenon – opportunities in the Philippines being so poor that people are forced to go elsewhere. But demand-pull is as or more important – the rest of the world so appreciating what Filipinos have to offer that it opens its embrace. The Philippine business process outsourcing industry employs 1.3 million workers (IBPAP) and Filipinos account for a quarter of the world's seafaring crew (Washington Post). The Philippines derives comparative advantage in services from the English language proficiency and amiable, cooperative nature of its people. A consequence of strong service exports is that associated payment inflows drive up the value of the peso to crowd out goods exports.

Some other Southeast Asian countries have been even more disposed toward goods exports than China, most strikingly Vietnam with a figure of 101% of GDP in 2019. The environment in Vietnam for trading across borders is not particularly better than in the Philippines according to World Bank metrics. The Philippines ranks #113 of 190 economies versus Vietnam's #104 (Figure 3). China, Malaysia, and Thailand rank appreciably higher. Vietnam has nonetheless gained a major edge in attracting foreign direct investment, as shown in Figure 4, much of which is aimed at production for export.

China is widely viewed as having engineered an export advantage by depressing the value of its currency, a tactic Fabella advocates for the Philippines. It must be recognized, however, that China manages its exchange rate within a context of capital controls and a state-dominated banking system and conducts monetary policy with reference to monetary aggregates. The Philippines has a more open economy with a market oriented banking system against which it pursues an inflation-targeting regime with a policy rate of interest as instrument. Such an institutional environment does not lend itself to sustained currency manipulation.

The Philippines would be better served by creating a business climate in which trade can flourish in accordance with comparative advantage. The big obstacle standing in the way is pervasive corruption. For all its social cohesion, China too has been burdened by corruption. President Xi made fighting it his top priority when he took power in 2012 and acted with all due seriousness. President Duterte came to office claiming corruption a priority, but four years on has admitted to a painful lack of progress. To gain traction, he might do well to focus on a particular government agency as a demonstration case. Based on my own nightmare experiences and in keeping with the principle of outward-looking development, I would propose the Bureau of Immigration. The place compares abysmally with its counterparts in other countries in which I have obtained work visas (China, Singapore, Korea). Being able to efficiently bring in foreign professionals and experienced staff is vital to attracting foreign investment and working with foreign partners in support of trade. I would further propose that the government engage an international consulting firm to assist with the clean-up. There are people who know how to do this. Making tangible progress in bringing down corruption would be a good starting point for the Phlippines in building social trust.

Ultimately, Fabella's interest in the China model derives from the country's impressive success in reducing poverty. Manufactured exports were no doubt a factor in that success. China's export oriented factories drew vast numbers of farmers out of rural poverty into gainful employment. Nonetheless, the jobs of the future will not be the jobs of turn-of-the-century third-world manufacturing. Given ongoing automation in manufacturing and the Philippines' demonstrated advantage in services, the key to absorbing workers into good jobs going forward will be education. The Philippines can better position itself by building on the advantageous foundations of its existing education system. The country boasts open access to information and a pedagogical tradition that values critical thinking and the exchange of views. In that respect, the comparison with China is all in favor of the Philippines. 

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Previous post in this series: Review of Raul Fabella, Capitalism and Inclusion under Weak Institutions

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