THE PHILIPPINES: FOREIGN DEBT AND ECONOMIC POLICY--THE CHOICES AHEAD

• Document Type: CREST
• Collection: General CIA Records
• Document Number (FOIA) /ESDN (CREST): CIA-RDP84S00554R000100020001-5
• Release Decision: RIPPUB
• Original Classification: C
• Document Page Count: 26
• Document Creation Date: December 21, 2016
• Document Release Date: September 29, 2008
• Sequence Number: 1
• Publication Date: July 1, 1982
• Content Type: REPORT

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Directorate of I Confidential
inteui ence x: r
The Choices Ahead
and Economic Policy
The Philippines: Foreign Debt
State Dept. review completed
Confidential
EA 82-10080
July 1982
Copy 314
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Directorate of
Intelligence
The Choices Ahead
The Philippines: Foreign Debt
and Economic Policy
Southeast Asia Division, OEA
welcome and may be addressed to the Chief,
Analysis. It was coordinated with the National
Intelligence Council. Comments and queries are
Confidential
EA 82-10080
July 1982
the Office of East Asian
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The Philippines: Foreign Debt
and Economic Policy-
The Choices Ahead
Key Judgments Manila's 1981 foreign debt of $15.8 billion does not pose an insurmount-
able immediate problem, but the government's options in formulating
economic policy will narrow rapidly during the next several years because
of debt management considerations. Even under favorable circumstances,
debt service costs will triple by the end of President Marcos's current term
in office in 1987, when they will equal about half of projected export
earnings versus 30 percent at present.
Manila has managed its official foreign debt-slightly more than half the
total-reasonably well, but the private sector is on precarious financial
footing because of world recession, longstanding government economic
policies that have discouraged industrial efficiency, and a rapidly growing
short-term debt. The escalation in short-term debt concerns the interna-
tional financial community because much of the borrowing has been used
for projects that will not produce income for several years. Also it may be
larger by $2 billion than Manila's estimate of $4.5 billion.
Manila has pledged a series of reforms to international creditors in return
for balance-of-payments assistance, but it is giving in to pressure from the
business community for short-term financial relief and long-term invest-
ment capital. The government is thus converting private-sector foreign debt
problems into public-sector responsibilities. This undercutting of economic
reform poses a danger that the government may commit financial resources
to economic activities in which the Philippines is not internationally
competitive. Under these circumstances, adjustments in economic policy
required to avert debt rescheduling by mid-decade could be even more
socially and politically disruptive than the current reform program, even if
a recovery in the international economy begins soon.
Information available as of 15 June 1982
has been used in the preparation of this report.
Confidential
EA 82-10080
July 1982
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Confidential
Key Judgments iii
Growth of Foreign Debt 1
Issues in Debt Management
7
Looking Down the Road
9
1. The Philippines: Holders of Foreign Debt
3. The Philippines: Foreign Debt by Sector
6. The Philippines: Successful Adjustment
7. Import Equivalent of Estimated Short-Term Debt for Selected 15
Asian Countries
1. The Philippines: Balance-of-Payments Summary
3. The Philippines: The International Financial Community 8
4. The Philippines: Estimated Short-Term Foreign Debt
5. The Philippines: Is a Debt Crunch Looming?
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Appendixes
A.
Estimating the Size and Significance of the Philippines' Short-Term
Foreign Debt
13
B.
Tests Designed To Forecast Impending Debt Problems: Applications
to the Philippines
17
C.
The Philippines: Selected Private Commercial Borrowers, 1977-81
19
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The Philippines: Foreign Debt
and Economic Policy-
The Choices Ahead
Growth of Foreign Debt
The Philippines has one of the most rapidly growing
foreign debts and one of the most unstable balance of
payments in non-Communist Asia. The official debt
has nearly doubled since 1978, reaching $15.8 billion
by the end of 1981.2
in mid-1981 the Philippines owed private foreign
bankers nearly $10 billion, international financial
institutions nearly $3 billion, and foreign governments
about $2 billion on official development assistance
loans (figure 1). American banks and government
institutions are the leading creditors, holding claims
of over $6 billion, or slightly less than half the total
loans outstanding. The Philippines, in turn, occupies a
prominent position in the global loan portfolios of US
commercial banks, ranking ahead of Chile, Taiwan,
Indonesia, Poland, East Germany, and Yugoslavia
25X1 (figure 2).
We believe the foreign debt is a potentially serious
problem for the Philippines and for its foreign credi-
tors because the funds borrowed have not succeeded
in raising and sustaining the economy's growth rate.
Moreover, the economy has slowed since 1979 while
growth of the foreign debt has accelerated. Although
this was initially a response to the shock of signifi-
cantly higher international oil prices, the Philippine
economy, unlike the economies of South Korea, Tai-
wan, and much of the rest of Asia, has since shown
signs of shar deterioration instead of the beginnings
of recovery,
25X1 ast year was especially traumatic.
Some $2.8 billion in new foreign loans and about $500
2 Government authorities have revised estimates of the foreign debt
downward since the end of 1981. Because these revisions are not
consistent with Philippine balance-of-payments statistics, we have
used the government's original estimates of Bch thedet and the
balance of payments throughout this paper.)
Figure 1
The Philippines: Holders of Foreign Debt
Million US $
Private banks; other nonofficial financial institutions
International financial institutions
EZM Bilateral development assistance
Non-US banks
and financial
institutions: 4,417
Other-.68
Japan: 767
US Government: 919
Other international
financial institutions: 77
The Asian Development
Bank: 358
The World Bank: 1,082
The International
Monetary Fund: 1,148
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Figure 2
US Bank Exposure in Selected Countriesa
Asia
South Korea
Philippines
Taiwan
Latin America
Brazil
Argentina
Chile
Africa
Oil Exporters:
Mexico
Venezuela
Indonesia
Ecuador
Algeria
Eastern Europe
Yugoslavia
Poland
East Germany
Hungary
ments imbalance became too large for a recovery in
international commodity prices to eliminate (table 1).
The economy has posted eight consecutive deficits in
the current account since 1973 and we project another
large one in 1982. The Philippines has chosen to
finance these deficits primarily by foreign borrowing
rather than by increasing exports as many of its Asian
neighbors have done." In addition, import prices have
increased faster than export prices since 1979, rein-
forcing the need for new policies to control the current
account deficits. Last year the balance-of-payments
deficit would have exceeded $800 million had the
Central Bank not sold gold from official reserves at
over three times the usual rate. If direct foreign
investment had not far exceeded previous levels-
because of a significant drop in repatriated profits-
the overall deficit would have been as high as $1.1
billion. At yearend 1981, international reserves had
declined about $500 million to $2.7 billion. This level 25X1
is nearly twice the level reserves averaged in 1975-77.
587012 7-82
million in drawdowns of international reserves by the
Central Bank failed to restore the 6.4-percent annual
growth the economy averaged during the 1970s.F
Growing Trade Dcits. Part of the external account
problem is cyclical. Because manufactures constitute
less than a third of export earnings, the balance of
payments is highly sensitive to the vagaries of interna-
tional commodity markets. The world commodity
boom provided the Philippines its best economic year
in 1973-a $275 million merchandise trade surplus
and 9.6-percent economic growth. OPEC oil price
hikes in 1973-74 rapidly consumed the foreign ex-
change windfall, however, and the Philippine pay-
' After twice revising their figures, Philippine Government authori-
ties estimate 1981 growth at 3.8 percent. This figure is not
consistent with other economic data reported by the government,
however, and is questioned by the International Monetary Fund
and the World Bank. On the basis of export performance and tax
collections, we place 1981 real growth between -1 and 1 percent.
Public and Private Borrowing. Philippine Govern-
ment reports show that public foreign debt has grown
somewhat more rapidly than private foreign debt
since 1972. Still, foreign obligations at yearend 1981
were almost evenly divided between public- and pri-
vate-sector borrowers. Much of the public-sector
debt-which we believe remains reasonably well man-
aged-reflects a decade of project-oriented borrowing
by such government institutions as the Philippine
National Oil Company, Philippine Airlines, and the
National Power Corporation.
A substantial portion of public foreign debt, however,
results from relending operations by government
banks and investment institutions to private-sector
borrowers. The Central Bank reports that since 1978
its Consolidated Foreign Borrowing Program alone
has obtained $400-600 million annually in medium-
and long-term credits for relending. To this extent the
"IMF statistics show that Philippine exports per capita are now 25X1
exceeded by those in South Korea, Taiwan, Malaysia, Singapore,
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1975
1976
1977
1978
19,79
1980
1981a
1982b
Current account
-923
-1,101
-828
-1,172
-1,576
-2,072
-2,589
-2,600
Merchandise trade
-1,197
-1,113
-840
-1,307
-1,541
-1,939
-2,667
-2,550
Exports f.o.b.
2,262
2,519
3,075
3,425
4,601
5,788
5,733
5,650
Coconut products
468
537
729
812
965
759
756
780
Sugar
616
451
527
213
238
474
609
600
Copper concentrates
212
270
280
250
330
679
544
650
Forest products
229
268
261
324
484
433
383
400
Manufactures
374
573
770
1,076
1,520
1,135
1,294
1,400
Other
363
420
508
750
1,064
2,308
2,147
1,920
Imports f.o.b.
3,459
3,632
3,915
4,732
6,142
7,727
8,400
8,200
Oil
814
936
1,019
1,030
1,385
2,248
2,565
2,400
Services (net)
-44
-257
-248
-178
-390
-555
-392
-500
Transfers (net)
318
269
260
313
355
422
470
450
Capital account
438
937
1,379
1,086
964
1,564
1,629
1,850
Direct investment (net)
98
144
216
171
99
49
407
200
Medium and long term (net) c
420
1,014
670
891
1,180
1,061
1,185
1,350
Short term d
-80
-221
493
24
-315
454
37
300
Monetization of gold
110
214
79
32
41
127
400
150
Balance
-375
50
630
-54
-571
-381
-560
-600
a Estimated.
b Projected.
c Includes allocation of SDRs.
d Includes errors and omissions.
government, rather than the private sector, bears a
25X1 major share of the financial risk imbedded in Philip-
pine foreign liabilities
Major Philippine private corporations also have been
active direct foreign borrowers in the last several
Philippines' top 20 companies by sales. Government
loan guarantees have helped these and other private-
sector borrowers secure foreign credit on substantially
more favorable terms than otherwise would have been
25X1 years. since 1976 such Deteriorating Terms on New Credits. Even with
firms as San Miguel, Construction and Development adroit use of loan guarantees and the Central Bank's
Corporation of the Philippines, Marinduque Mining monitoring of foreign borrowing, Philippine commer-
and Manufacturing, and Atlas Consolidated Mines all cial borrowers have secured credits on increasingly
have secured large medium- and long-term syndicated
loans (appendix Q. Each of these firms ranks in the
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Figure 3
The Philippines: Foreign Debt by Sector
Billion US S
Figure 4
The Philippines: Foreign Debt by Maturitya
o Long-term debt
= Medium-term debt (1-5 years)
M Short-term debt
aEstimated.
bProjected.
ePrivate sector debt includes government
guaranteed private debt.
58,013 7-82
less attractive terms since late 1980,
new loans have shortened while other measures of
bankers' risk assessments-spreads and management
fees-have increased.' Euromoney, an international
financial industry magazine, early this year rated the
Philippines as one of the developing world's most
rapidly deteriorating credit risks on the basis of
maturities and spreads obtained on foreign loans
during 1981
At the same time, rapidly expanding private credit
needs and reduced creditworthiness have combined to
force private borrowers into the short-term market
since mid-1979 (figure 4). During the first six months
of 1981, short-term debt grew at an alarming annual
rate of over 46 percent; by yearend it reached nearly
' Spreads and fees have risen recently for several other LDCs in
financial trouble, such as Mexico and Argentina, but have re-
main steady for most East Asian countries except South
Korea.
1979 1980 1980 1981 1981b
Dec Jun Dec Jun Dec
aEnd of period.
bEstimated; revised downward in April1982
by Philippine authorities.
$4.5 billion, according to official government statis-
tics.6 Had Philippine borrowers used short-term and
revolving credits to finance foreign trade (as is usually
the case), we estimate that the short-term debt would
have been about $2.9 billion.
The Central Bank traditionally has paved the way for
other Philippine borrowers by securing highly publi-
cized syndications on premium terms early in each
calendar year. Early in 1982 Manufacturers Hano-
ver-which has led the first Central Bank syndication
6 The actual size of the short-term foreign debt is in doubt and
could exceed government estimates by as much as one and a half
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Syndication
Syndication
participants
LIBOR
Spread
tion to earning interest on the
portion of the loan amount it
supplies.
The process by which a leading Risk
bank recruits other banks to con-
tribute funds to the amount
pledged to the borrower.
The bank selected by the borrow- Maturity
er to market a loan. The lead
bank receives a syndication or
marketTigfee-a percentage of
the loan's total value-in addi-
Other banks that agree to provide
a portion of the loan amount in
return for sharing the syndication
fees. Comanagers in turn hope to
recruit other banks as syndica-
tion participants.
Banks that provide a smaller
share of a syndicated loan.
London Interbank Offered Rate.
The interest rate London banks
pay for US dollar deposits. Most
syndicated loans are made at a
contracted spread over LIBOR.
The spread remains fixed over
the life of the loan, but LIBOR is
free to vary as market conditions
dictate.
The percentage interest rate
above LIBOR that borrowers pay.
The banker's subjective assess-
ment of the unexpected, ex-
pressed via the interest rate or
other terms of the loan.
Length of a loan commitment.
Shorter maturities can indicate
bankers' lack of faith in a coun-
try's longer term economic or
political prospects.
Short-term loans Loans with an original maturity
of one year or less.
Reschedule An agreement between borrower
and lender to place repayment on
more manageable terms.
Country limit The maximum value of outstand-
ing loans to all borrowers in a
given country that a banker is
willing to accept. Self-imposed.
Debt service ratio A ratio intended to measure the
burden on the economy offoreign
debt repayment (principal and in-
terest). Variously defined as:
(a) Medium- and long-term re-
payments as a share of merchan-
dise exports.
(b) Medium- and long-term re-
payments as a share of the previ-
ous year's balance-of-payments
earnings (the definition used by
the Philippines). Philippine law
limits the ratio to 20 percent, but
it will rise to at least 22 percent
for 1982.
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The Philippines: The Burden of Debt Service
Medium- and long-term debt service
1,007
1,252
1,418
1,703
2,241
Principal
730
760
804
850
950
Interest
277
492
614
853
1,291
Interest on official short-term debt c
93
172
363
620
630
b Projected.
each year since 1978-managed a $325 million syndi-
cation on the most favorable terms the Central Bank
had obtained since the late 1970s-a split spread of
five-eighths and three-fourths percentage points over
the London Interbank Offered Rate for the duration
of the 10-year term of the loan. Even so, Manufactur-
ers Hanover had to share management fees with 14
comanagers before filling out the syndication, accord-
ing, to the financial press. The Central Bank, more-
over, had to promise syndication participants for the
first time in writing to stay out of the market for new
loans until late in the year.
The Growing Burden of Debt Service. The annual cost
of debt service has nearly tripled since 1977. Even
though Manila took advantage of relatively low world
interest rates during 1978 and 1979 to engage in
substantial refinancing,
medium- and long-term debt service consume 30
percent of merchandise export earnings last year-the
largest share in a decade (table 2). If short-term debt
service were included, the share of export earnings
would reach 40 percent.
Interest payment obligations made up one-third of
total debt service in 1978 but will constitute two-
thirds of total debt service in 1982. As a share of
' The large short-term debt is cause for concern because we believe
much of it was used to finance investment projects that will not
export earnings, interest payments are rising even
more rapidly. The Philippine Central Bank reports
that for the first quarter of 1982, interest payments
amounted to 27 percent of exports, compared with 16
percent in the first quarter of 1981. We believe this
trend is both the most accurate and the most alarming
measure of the net resource drain that debt service
imposes on the economy.
Philippine law limits the burden of medium- and long-
term debt service by requiring that repayment obliga-
tions on loans not exceed 20 percent of the previous
year's balance-of-payments earnings. Even using this
definition, however, the debt service burden is rising.
Medium- and long-term repayment obligations in
1981 reached 19.4 percent of 1980 balance-of-pay-
ments earnings. We expect the statutory limit will be
breached in 1982 because medium- and long-term
debt service will increase by more than $500 million,'
as grace periods on old loans expire and interest costs
rise; in addition, export earnings fell last year.
'As a share of national income, interest payments were less than 2
per in 1978 but will reach 5 percent of GNP this
year
' Either o two amendments to the law would prevent this by 25X1
keeping 1982 debt service under 20 percent: the denominator of the
fraction could be increased by changing the balance-of-payments
calculation to the current year, or the numerator could be reduced
by excluding certain kinds of debt service. Both approaches have
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Issues in Debt Management
Managing Repayment Capacity. We believe the re-
cent record of economic growth in the Philippines is
one of the most anemic in East Asia and results from
industrial and trade policies since the 1960s that have
kept resources from their most efficient uses. Our
analysis indicates that Manila has indirectly subsi-
dized capital-intensive manufacturing industries in
which the economy could not compete international-
ly." The government has discriminated against ex-
porters and subsidized importers of capital goods and
raw materials with exchange rate policies that over-
valued the peso." At the same time, high tariffs and
foreign exchange controls have protected inefficient
local manufacturers of such products as cement, steel,
textiles, paper, chemicals, and processed foodstuffs.
Combined with underdeveloped local financial mar-
kets, these policies ensured the continuing presence of
a private sector prone to repayment difficulties in
international capital markets.
tariffs and liberalize foreign exchange controls. Ac-
companying tax reform is to replace funds lost to
import duty reductions. These measures represent a
sharp departure in Philippine policy because they
favor enterprises and activities that do not depend on
political connections.
World Bank have sett
Even with the restrictions on its policymaking, the
government will receive a substantial dividend from
Bank and Fund balance-of-payments assistance. Pri-
vate foreign banks-which say they provide the Phil-
ippines two-thirds of its foreign credit-will be much
more receptive to making new Philippine loans if
Philippine economic policies continue to bear the
imprimatur of international financial institutions. The
Bank and the Fund have taken steps to ensure this
occurs by providing financial assistance in stages. The
Bank's 1981 Structural Adjustment Loan was the
first installment of $600 million in such credits.
Manila is currently negotiating another IMF standby
loan and will remain dependent on IMF assistance
throughout the early 1980s. Further balance-of-pay-
ments support will depend on whether Manila imple-
ments the reforms and meets the targets the IMF and
In exchange for balance-of-payments assistance, the
International Monetary Fund and the World Bank
have extracted promises from Manila for far-reaching
economic reforms to solve these problems (table 3). An
IMF Extended Fund Facility credit of $400 million
covering 1978-79 and a Supplementary Financing
Facility loan covering 1980-81 required Manila to
pursue an exchange rate policy that does not seriously
overvalue the peso and to protect export competitive-
ness from the effects of domestic inflation by restrain-
ing growth of the money supply. Manila also agreed
to promote development of the local capital market by
deregulating interest rates and to limit foreign com-
mercial borrowing to keep debt service manageable.
Last year a World Bank Structural Adjustment loan
25X1 of $200 million further required that Manila reduce
provides an exporter with 5 pesos for each dollar of export earnings
while a lower exchange rate of 10 pesos per dollar gives him twice
as many pesos for the same dollar's worth of exports. The importer
ing the amount of domestic currency earned per dollar of exports.
For example, an overvalued exchange rate of 5 pesos per dollar
Managing the Demand for Foreign Credit. The
Private Sector. Manila is making slow progress cor-
recting the policy excesses that lie at the root of its
balance-of-payments problems. The Central Bank al-
lowed the exchange rate to depreciate fairly rapidly
against the US dollar during the second half of 1981,
but a strong dollar meant that the peso appreciated-
by over 3 percent on average-against the currencies
of most of the Philippines' other trading partners.
According to public statements by government offi-
cials, Manila is reluctant to allow rapid depreciation
because it would reverse the effects of the govern-
ment's primary policymaking victory in the last two
years-cutting the inflation rate by half to 12 percent
in 1981. The Philippine Chamber of Commerce and
Industry has protested the depreciation that has oc-
curred because of the profits squeeze experienced by
large private firms that buy imported raw materials
and capital goods. Early this year the government
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The Philippines: The International Financial Community
The International Provides medium-term balance-of-payments assistance in exchange for pledges by Philippine authorities
Monetary Fund to make corrective changes in economic policy. Now negotiating $500 million credit with Manila. Its
1982 review of the Philippine economy gave Manila the equivalent of a C for economic management.
Largest Philippine aid donor. Chairs Consultative Group-the Philippines' consortium of aid donors
meeting in June 1982. Also provides balance-of-payments loans in exchange for adjustments in economic
policy. Its $200 million structural adjustment loan will require that Manila cut domestic energy subsidies
and continue reform of industrial policy. Private bankers believe it essential that Manila follow World
Bank and IMF advice.
The private international banking Lends on medium- and long-term basis to various Philippine borrowers. Lends on short-term basis to fi-
community a nance international trade. Places informal pressure on Manila's formulation of economic policy. Private
banks provide about two-thirds of the flow of credit to the Philippines.
a US banks usually lead syndications, but Japanese and Middle
Eastern banks are increasingly prominent participants.
began lowering tariffs and liberalizing foreign ex-
change controls in an effort to force manufacturers to
cut costs, but local opposition to these measures is
substantial. According to the Manila press and to
embassy reports, domestic producers of durable con-
sumer goods recently obtained the Central Bank's
pledge that foreign exchange licensing would be reim-
posed on household appliances, and the garment and
textile industries are pressing for similar relief.
Progress promoting the development of local financial
markets-the most obvious alternative to foreign fi-
nancing for the private sector-also is slow despite
vigorous government efforts. Last year, following a
domestic financial crisis, Manila deregulated domes-
tic interest rates and adopted a series of financial
reforms designed to place corporate finances on a
sounder footing." Although the reforms have restored
order in the local financial community, the new
interest rate regulations have yet to generate an
increase in the supply of loanable funds because
private banks in a cartel-like action have held interest
rates on savings deposits to 9 percent. The Philippine
press has pronounced financial reform a failure, but
the government-owned Philippine National Bank is
trying to encourage higher rates for depositors by
raising its own rates.
The Public Sector. To trim its foreign borrowings,
Manila has sharply scaled back a controversial heavy
industry program for the 1980s. Planned outlays of
$6 billion have been reduced to $4 billion as a result
of cuts in an overly ambitious gasohol program and
the size of a proposed $1 billion integrated steel mill.
A proposed $320 million petrochemical complex and a
$450 million aluminum smelter probably will not be
built.
Nonetheless, Manila's growing budget deficits remain
a cause for concern in the international financial
community. In 1981 the government's operating defi-
cit ballooned in the face of declining tax collections,
reaching 3.9 percent of GNP-the highest since the
mid- 1970s, and budget perfomance continued to dete-
riorate early in 1982. The deficit soaked up 15 percent
of domestic savings last year, three times the level
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recorded in 1980. This has largely offset the effects of
financial reform aimed at promoting local sources of
credit. Moreoever, near-term tax collection is unlikely
to dramatically improve in view of World Bank-
25X1 mandated reductions in foreign trade taxes.
One means of reducing the financial burden of foreign
25X1 borrowing would be increased direct foreign invest-
According to reports provided by Phillipine techno-
crats to the IMF and the World Bank, Manila is
counting on eventual reductions in government food
and energy subsidies to help cut the budget and the
deficit. These moves will pit the technocrats, led by
Prime Minister Virata, against a variety of important
political constituencies. To keep prices down Virata
has reduced fertilizer subsidies and even threatened
local producers with import competition. He has also
announced reductions in domestic sugar and rice
subsidies, even though these moves will raise prices
for urban consumers. Manila was to have pledged
reductions in electricity subsidies this summer in
exchange for a second $200 million World Bank
Structural Adjustment Loan, but local business inter-
ests successfully lobbied against the move, and a
planned increase in electricity rates has been post-
poned indefinitely according to Philippine press re-
ports.
continuing world recession." Manila is moving ahead
with management reorganization and financial re-
structuring of several major firms. One result of its
corporate rescue program, however, is growing expo-
sure to the private-sector's financial problems
The outlook is bleak for the balance of payments this
year. Philippine Central Bank reports show the first-
quarter payments deficit reached $539 million-near-
ly equal the deficit for all of 1981, one of the worst
years in the country's postwar economic history.
Interest payments on the foreign debt this year will
rise by about $450 million, but the decline in interna-
tional oil prices will not offer much relief because
most of the Philippines' oil import contracts are long-
term deals unaffected by international oil price reduc-
tions. The Central Bank, moreover, probably will not
want to sell gold at anywhere near last year's rate
because of the diminished world price.
For its part, the IMF is calling for immediate reduc-
tions in the current account and in the overall pay-
ments deficit because of the mid-decade cost in added
debt service that will result from heavy current
borrowing. To this end, Prime Minister Virata has
announced a $2.4 billion foreign borrowing limit for
1982, with only $1.4 billion reserved for the private
sector. If the new limits are adhered to, they would
stabilize the trade deficit, but at the cost of denying
the private sector needed financing in the face of weak
domestic and international sales. Central Bank Gov-
ernor Jaime Laya admitted as much in a speech
earlier this year. We believe, moreover, that the loan
limits may be too low to accommodate borrowing
planned by government banks for private corpora-
tions. Manila hopes the 12-percent cut in government
expenditures it announced in April 1982 will ease the
ment. Although Manila is reviewing its investment
regulations, the process is unlikely-
significant streamlining. Tariff reductions on raw
materials, however, promise to enhance the profitabil-
ity of investing in the Philippines. Government plans
envisage $400 million in foreign direct investment this
year, but we believe Manila will have to resolve
increasingly unsettled labor relations before attract-
ing anywhere near that amount.
Looking Down the Road
We believe that recent developments at home and
abroad have increased the urgency of placing the
country's external accounts on a sound footing. The
embassy reports that the financial positions of the top
firms in the private sector-and thus its prominent
private foreign borrowers-remain precarious in the
wake of last year's domestic financial crisis and the
problem by reducing public-sector competition with
the private sector for scarce investment funds.
" Philippine corporations experiencing severe financial distress in
1981 and early 1982 include six of the country's top 25 firms
according to sales. Using this criterion, a somewhat analagous
situation in the United States would be for Gulf Oil, Atlantic
Richfield, General Electric, DuPont, Tenneco, and Getty Oil to
teeter simultaneously on the verge of insolvency, avoiding bank-
ruptcy only by transferring existing equity to federal government
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The Potential Debt Service Burden." Much of the
Philippines' debt service burden later in the decade
will depend on variables we cannot forecast with any
precision. A strong economic recovery in the United
States-the Philippines' leading trade partner-
would help ease short-term financial problems, for
example. International interest rates and other terms
available to Philippine commercial borrowers also will
be important determinants of Philippine borrowing
activity and subsequent repayment obligations.
Nevertheless, a major portion of the debt service
burden through the mid-1980s will be determined by
repayment obligations on loans Philippine borrowers
have already secured. Furthermore, Manila is pursu-
ing a wide range of policies that will shape its
borrowing needs regardless of the performance of the
international economy. Not the least of these is
exchange rate policy-which will determine the econ-
omy's near-term balance-of-payments prospects-and
ongoing industrial restructuring-which will shape
the balance-of-payments prospects by mid-decade
If Manila responds to the current international eco-
nomic environment by placing economic reform on
hold, we believe the effects on the current account
deficit and on borrowing requirements could be devas-
tating (figure 5). We project that the trade deficit
under these circumstances could rise from $2.6 billion
in 1982 to over $4 billion by 1985; debt service on
medium- and long-term loans, even assuming some
easing in international interest rates, would reach $4.9
billion, with over half the total outflow used for
repaying loans obtained after 1981. The outstanding
medium- and long-term foreign debt would reach
nearly $25 billion, with debt service rising to about 70
percent of merchandise export earnings. To the extent
that the current short-term debt is refinanced with
new medium- and long-term borrowing, debt service
and the debt would be even larger.
"The discussion in this section should not be interpreted as a
formal forecast of the growth of foreign debt, debt service, or
current account balances through 1985. As developments in the
international economy in the 1970s show, unexpected events can
play havoc with any forecast, no matter how sophisticated the
economic modeling. The discussion is intended to illustrate poten-
tial repayment problems in the next few years that are built into
existing foreign loan agreements and into Philippine current indus-
trial restructuring policies.F__~
If the international economy rebounds sharply, if
interest rates moderate further, and if Manila contin-
ues economic reform through 1985, we believe there
will be an opportunity to stabilize the slide in the
country's external accounts. For example, assuming
the current account deficit stabilizes this year and
'improves dramatically after 1984, debt service could
reach $4.2 billion in 1985 (figure 6). Because of the
repayment burden on loans contracted prior to Janu-
ary 1982 and the lack of immediate improvement in
the trade deficit, the foreign debt and the debt service
burden would continue to rise through the mid-1980s
but at a slower pace. Debt service would peak at
roughly 50 percent of merchandise export earnings in
1984. The burden would drop thereafter, but would
remain above current levels through 1987-the end of
President Marcos's current term in office.
25X1
Tests Ahead. We believe Marcos's complete domina-
tion of Philippine politics probably will enable him to
continue economic reform through its most painful
period in the next two years. He has displayed a 25X1
flexibility in formulating economic policy-at the
behest of his technocrats-that should enable the
Philippines to cope with growing financial strains.
Indeed, Marcos announced in March 1982 that chief
technocrat Cesar Virata will keep the post of Prime
Minister, rather than rotate out, as had been sched-
uled, in July
The world recession may nevertheless have forced
Manila into a preoccupation with short-term econom-
ic problems that will compromise long-term debt
management. We believe the government could ne-
gate the benefits of overhauling tariff policy and of
foreign exchange liberalization if it chooses to bail out
firms that cannot survive on their own. Bailouts are
proving an expensive proposition for the government,
and the financial drain could grow rapidly in the next
few years.
Marcos thus will have to choose more carefully during
the 1980s than he did in the 1970s between heavy
foreign borrowing, corporate bailouts, indulging inef-
ficient state enterprises and powerful private monopo-
lies, on the one hand, and reform and the forces of the
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Figure 5
The Philippines: Incomplete Adjustment
The Philippines: Successful Adjustment
Current Account
Million US $
Current Account
Million US $
Exports
5,733
5,650
5,932
6,229
6,852
7,537 8,290
Exports
5,733
5,650
6,215
6,836
8,204
9,844
11,813
Imports
8,400
8,200
9,020
9,922
10,914
12,006 13,206
Imports
8,400
8,200
8,610
9,471
10,418
11,460
12,606
Services (net)
-392
-500
-550
-605
-666
-732 -805
Services (net)
-392
-500
-525
-551
-579
-608
-638
Transfers (net)
470
450
495
544
599
659 725
Transfers (net)
470
450
495
544
599
659
725
Current Account
-2,589
-2,600
-3,143
-3,754
-4,129
-4,542-4,996
Debt Service on Medium-and Long-term Loans
Billion US $
0 1981 82
Debt Service Ratio
Share of Export Earnings
.90
.80
.70
.60
.40 1 I I
.30 1981 82 83 84 85 86 87
Medium-and Long-Term External Debt
Billion US $
Assumptions:
In projecting the current account, we assume a slow recovery from world
recession, stable terms of trade, and incomplete adjustment of the Philippine
economy. Export growth is 5% in 1983-84 (from a 1982 base) and'10%
thereafter. Imports, services, and transfers all grow by 10% a year. All new
borrowings have 8 year maturities, an average interest rate of 10%, and a
one year grace period for repayment of principal.
587015 7-82
25X1 11
Service on probable borrowings, 1982-87
Debt Service on Medium-and Long-term Loans
Billion US $
0 1981
Debt Service Ratio
Share of export earnings
.40 Ll__071~_ I I I 1 1
.30 1981 82 83 84 85 86 87
Medium- and Long-Term External Debt
Billion US $
Assumptions:
In projecting the current account, we assume a moderate recovery from
world recession, a slight improvement in the terms of trade, and successful
adjustment. Export growth is 10% in 1983-84 (from a 1982 base) and 20%
thereafter. Import growth is 5% in 1983 and 10% thereafter. Services grow at
5% and transfers at 10%. New borrowings have 8 year maturities in 1982-84
and 10 years thereafter; the average interest rate is 7% and there is a one
year grace period on repayment of principal.
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free market on the other. The President and his
technocrats, moreover, will have to maneuver among
an increasingly restrictive set of options to make these
choices. High world interest rates, for example, make
it impractical for the Philippines to refinance its
current foreign debt. We believe retarding import
growth by deliberately slowing the economy is an
option that Marcos wants to avoid because of its
prohibitive political costs. Among other consider-
ations, we believe the resulting high unemployment
would probably increase the attractiveness of the
Communist Party and affiliated labor and student
front groups in urban areas where heretofore their
success has been limited. In addition, growing imports
of capital will be necessary for restructuring the
manufacturing sector to increase international com-
petitiveness and for continuing the major industrial
projects in which Marcos's cronies have large stakes.
Largely for these reasons, we believe it likely that
Marcos will decide to take a middle path-initiating
enough reform to maintain support from the interna-
tional financial institutions, but not enough to upset
his political base-and hope to muddle through. If
short-term economic or political problems lead Mar-
cos to either defer reform or to assume responsibility
for all private foreign debt problems, however, we
believe that by mid-decade he could find a socially
disruptive slowdown in development his only alterna-
tive.
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Appendix A
Estimating the Size and Significance
of the Philippines'
Short-Term Foreign Debt
The Philippine Central Bank puts the short-term
foreign debt at $4.5 billion at the end of 1981. Our
estimate-based on Bank for International Settle-
ments data-has the short-term debt significantly
higher, probably as high as $6.8 billion.'
The BIS provides data on short-term bank claims
against the Philippines from mid-1978 to mid-1981.
The data must be adjusted in a number of ways to
estimate the Philippines' short-term debt:
o The most important problem is the omission of
claims against the Philippines held by non-BIS
(mostly Middle Eastern) banks. We adjusted the
BIS numbers for short-term claims upward by our
estimates of 10 percent in 1978-79 and 30 percent in
1980-81. The higher adjustment for 1980-81 re-
flects increased financing of higher priced oil
imports.
? The BIS data do not include suppliers' credits
provided by private firms. Our best estimate is that
these credits are equal to one month's imports, and
we make this adjustment to the BIS short-term
claims.
? BIS data on short-term claims include claims with a
residual maturity of one year or less. Some of these
claims reflect maturing medium- and long-term
loans. Therefore, we adjusted the BIS data down-
ward by an estimate of longer term claims maturing
that year. This estimate was derived from the BIS
category of claims with residual maturity of be-
tween one and two Years from the report of the
preceding year
' The Bank for International Settlements in Switzerland-a clear-
inghouse for Central Banks-reports bank claims against as well as
liabilities to the Philippines. Reporting banks include those from
most of the industrialized Western countries. The data include
claims and liabilities of all affiliates of US banks, no matter where
located, and affiliates of other reporting banks located in major
Our adjustments and final estimate of the Philippine
short-term debt from mid-1978 to mid-1981 are
shown in table 4.Z To obtain the estimate of the short-
term debt for the end of 1981, before adjusting for
offshore banking arrangements, we increased the mid-
1981 figure by 14 percent, a conservative estimate
based on the growth of the official short-term debt by
Our estimate, however, may need to be adjusted
slightly up or slightly down because of the existence of
various offshore banking arrangements, which may
produce some BIS claims on the Philippines that do
not arise from Philippine foreign borrowing:
? Offshore banking units (OBUs) are affiliates or
subsidiaries of foreign banks that are given special
incentives to locate in the Philippines.
? Foreign currency deposit units (FCDUs) are banks,
both foreign and Philippine, that are allowed to
accept foreign currency deposits and make foreign
currency loans up to the amount of their deposits.
? Deposit-taking corporations (DTCs) are Philippine
companies located primarily in Hong Kong that 25X1
accept deposits and then lend the funds to both
Philippine and non-Philippine borrowers.
The existence of these arrangements creates the possi-
bility that some of the BIS-reported claims may be
interbank deposits that reflect Philippine deposits
being lent ultimately to Philippine borrowers. It is
also possible that some of the BIS-reported data are
interbank deposits that reflect foreign deposits ulti-
mately being lent abroad. Our best guess, based on
other data, is that the magnitude of these transactions
was no larger than $2 billion in 1981.
I Even with these adjustments, our estimate could still be off
because of incomplete data and financial transactions such as pre-
payments and rescheduling that we are not aware of.
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BIS reporting banks' short-term claims against
the Philippines
Adjustment for non-BIS bank claims
Adjustment for nonbank suppliers' credits
Adjustment for longer term claims matur-
ing this year
Subtotal
Adjustment for BIS short-term claims that
reflect either domestic intermediation of
lending by Philippine institutions to
foreigners
Mid-
1978
End
1978
Mid-
1979
End
1979
Mid-
1980
End
1980
Mid-
1981
End
1981
2.2
NA
0.2
NA
0.3
0.4
1.3
1.6
1.7
0.4
NA
0.5
0.5
0.6
0.6
0.7
-0.4
NA
-0.4
-0.4
-0.3
-0.3
-0.4
2.4
NA
3.4
4.5
6.1
7.4
7.7
8.8
-0.1
-0.5
-0.5
-1.0
-1.0
-2.0
-2.0
Significance of Short-Term Debt
Debt analysts do not treat an economy's short-term
foreign debt the way they treat medium- and long-
term debt for two reasons: statistics on short-term
foreign debt are notoriously unreliable, and short-
term loans are usually considered self-financing.
Banks feel secure in extending short-term credits
because such loans consist almost entirely of revolving
or tirade credits used to finance imports. These credits
are considered self-liquidating; that is, they are to be
repaid out of the proceeds of the sale of the imports
they were used to finance.
By any of the conventional measures, the Philippine
short-term debt is much larger than would be expect-
ed if the debt consisted primarily of revolving credits
used to finance imports. The usual rule of thumb is
that a country requires trade financing equal to
approximately four months' imports. By our estimates
the Philippine 1981 short-term foreign debt is equal to
about 10 months' imports. (Even the official short-
term debt is equal to over six months' imports.) In any
case:, the ratio of short-term debt to imports is much
higher for the Philippines than for other Asian coun-
tries (see figure 7).
There are several reasons why the short-term debt has
grown so rapidly. Part of the Philippines' high de-
mand for short-term credit springs from the inability
or unwillingness of private companies to borrow long
term at current high rates. More worrisome is the
possibility that the demand for short-term credit is the
result of distress borrowing by firms whose working
capital is being depleted, or even the result of distress
lending by banks unwilling to push Philippine custom-
ers into bankruptcy by withdrawing loans. In the
latter event, banks are advancing money to troubled
companies to pay interest obligations on outstanding
loans. Such abnormally heavy short-term borrowing
over the long run adds to the already severe financial
problems of many firms. If this is the case, much of
the short-term foreign debt-probably about $4 bil-
lion-is not self-liquidating and adds to the basic
current debt service burden.
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Figure 7
Import Equivalent of Estimated Short-Term
Debt for Selected Asian Countries'
Philippines
South Korea
Thailand
Taiwan
Indonesia
Sri Lanka
Malaysia
aEnd of 1980. Based on Bank for
International Settlements data.
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Appendix B
Tests Designed To Forecast
Impending Debt Problems:
Applications to the Philippines
In 1975-80, 11 developing countries experienced mul-
tilateral debt renegotiation, involving both public and
private creditors. Although it is difficult to identify
leading indicators that can be used to forecast an
impending debt crisis with any degree of confidence,
IMF analysts have isolated several characteristics
exhibited by most of the developing countries that
underwent debt rescheduling.' We apply these criteria
to the Philippines in the following table.
A summing up of the factors in the table suggests that
the Philippines will face serious balance-of-payments
problems within the next few years but will not
encounter a debt crunch. Compared to most of the
countries that rescheduled in this period, the Philip-
pines has a more diversified economic base and is
trying, with some success, to broaden its exports.
Philippine imports have not grown as rapidly as
' Bahram Nowzad, Richard C. Williams and others, External
Indebtedness of Developing Countries. International Monetary
imports of the rescheduled group, nor have inflows of
capital been as variable. In addition, Manila has
asked for and has received IMF and World Bank
financial assistance and technical advice-in time,
perhaps, to implement the necessary structural reform
of the economy. The government has already shown
both the willingness and the ability to intervene to
prevent widespread financial collapse-in the wake of
the 1981 domestic financial scandal. Most important-
ly, Manila possesses a set of highly competent eco-
nomic managers, technocrats who realize the implica-
tions of the large foreign debt and who-in the right
political climate-can design measures to manage it.
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Deteriorating balance of payments:
? Expansionary monetary and fiscal policies producing rapid import
growth
? Sharp rise in imported oil prices
? Slow growth in output and exports
? Fluctuations in workers' remittances and tourist earnings
? Decline in official long-term capital inflows
? Slower growth or decline in private capital inflows
Rapid expansion of private bank borrowing:
? Large increase in share of external debt held by private banks
? Rapid expansion of medium-term syndicated loans at terms
slightly less favorable than those accepted by other non-oil-
developing countries
? Bank lending tended to be procyclical and move with the
commodity price cycle
? Periods of peak borrowing associated with rapid increases in
government expenditure and a decline in the domestic savings rate
? Marked shortening of maturities
? Banks tended to react to payments difficulties by running down
trade credits
Borrowed funds generally invested in projects not productive enough
to generate sufficient foreign currency earnings to repay the loans
Accumulation of payments arrears. Countries which rescheduled
had payment arrears approaching 40 percent of merchandise export
earnings
Erosion of international financial community's confidence in bor-
rowing country's economic management. Reflected in slowdown of
loan growth and hardening of terms
The Philippines has run increasingly large balance-of-payments
deficits since 1979:
? Expansionary fiscal policies were in evidence in 1981, bqt
monetary policy was restrictive and imports grew less than 10
percent
? OPEC price hikes have accounted for the bulk of the trade deficit
since 1979.
? Exports fell in 1981 and output grew at most 1 percent. Export
revenue is highly variable because it consists heavily of primary
commodity earnings
? Workers' remittances are buoyant and tourist receipts reasonably
steady
? Official long-term inflows are steady at $1.1 billion a year
? Private medium- and long-term capital flows are holding steady.
Short-term capital inflows are rising.
Private banks hold about 70 percent of the Philippines' external debt:
? Terms on Philippine loans are not as good as those of 1980, but re-
main better than those for many LDCs
? Medium- and long-term lending increased in 1980 and held steady
in 1981. The Philippine Central Bank is trying to limit borrowing
in 1982, but may not be able to do so.
? Borrowing is procyclical and corresponds to rise of government
budget deficits, which is due to poor tax performance
? Government expenditure held steady in 1981, and President
Marcos has announced efforts to trim outlays in 1982:
? Maturities have shortened considerably since 1980, and short-term
debt is growing rapidly
? Philippines is still an excellent short-term risk
Investment in the Philippines for a decade has been inefficient in
generating output. Foreign borrowing has also been inefficient.
The country is in the middle of a structural adjustment program to
correct this problem, but results are not expected for several years
Private-sector arrears are growing rapidly, particularly among
firms which depend on government business. Payments by the
public sector are on schedule, however, and total arrears are a
small fraction of export earnings.
International financial community downgrades Philippine cre-
ditworthiness in 1981. Loan terms deteriorating in 1982. Doubts
surfacing about Manila's economic management.
Several large private corporations are currently rescheduling their
loans. Government finances are on a firm footing, however.
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Appendix C
The Philippines:
Selected Private
Commercial Borrowers, 1977-81
Amount
(million US $)
Spread
(percentage
points)
Maturity
(years)
Construction and Development
Corporation of the Philippines
Manager: Republic National Bank
of Dallas
Philippine Long Distance
Telephone Company
Manager: European Asian Bank
Guaranteed: The Development Bank of
the Philippines
130.0
1.250
1.375
1.500
5.0
3.0
2.5
Manager: Citicorp International
Group; Bank America International
Group; BT Asia, Ltd.; Chase Manhat-
tan Asia, Ltd.
Construction and Development
Corporation of the Philippines
Grace period 4.0 years
Guaranteed: Philippine National Bank
Atlas Consolidated Mining and
Development Corporation
Grace period 3.0 years
49.1
1.000-
1.125
8.0
Over six months SIBOR rate varies
between 1.0 and 1.125
Construction and Development
Corporation of the Philippines
Standby guarantee facility
Guaranteed: Philippine National Bank
Construction and Development
Corporation of the Philippines
Grace period 3.0 years
Guranteed: Philippine National Bank
Construction and Development
Corporation of the Philippines
Manager: Citicorp International
Group; Amex Bancom, Ltd.
San Miguel Corporation
Grace period 2.0 years
Signed in Hong Kong
300.0
0.750-
0.850
6.0-6.0
Manager: Private Investment
Company for Asia, Philippine
Investments Systems Organization
Manila Electric Company
47.0
0.875-1.00
4.0-6.0
Philippine Associated Smelter
and Refining
85.0
0.750-
0.875
6.0-9.5
Landoil Resources Corporation
50.0
NA
Standby guarantee facility for
borrower's activities in Saudi
Arabia
Various Philippine contractors
20.0
0.875
8.0
Manager: Arab banks
Dupax Rubber Corporation
18.5
1.00
8.0
Margin above SIBOR
Guaranteed: Development Bank of
the Philippines
Landoil Resources Corporation
26.0
1.00
Manager: Credit Suisse First Boston
Marinduque Mining and Manufacturing
83.0
0.875-
1.00
4.0-4.0
Guaranteed: Development Bank
of the Philippines
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Amount
million US $
Spread
(percentage
points)
Maturity
(years)
Remarks
19111
Asia Breweries
60.0
1.00
8.0
Manager: Marine Midland
Construction and Development
Corporation of the Philippines
46.5
1.00
7.0
Guaranteed: Philippine Export
and Foreign Loan Guarantee Corpora-
tion; US EXIM Bank
Philippine Long Distance Telephone
Company
76.8
1.125
8.0
Manager: European Asian Bank
17.0
1-1.125
5.0-3.0
Manager: Credit Suisse First Boston
Guaranteed: Philippine Export and
Foreign Loan Guarantee Corporation
20.0
1.00
4
Manager: Al Bahrain Arab African
Bank
E
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