Rising growth, declining investment: the puzzle of the Philippines


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If you are interested in development economics, here is an interesting puzzle.

According to conventional wisdom, investment is a key ingredient for economic growth. If you invest, you grow - not immediately of course, as everything takes time. If you don’t invest, your economy stagnates.

Basically - so the wisdom goes - the accumulation of physical (e.g.: infrastructure – roads, dams) and human (i.e.: education and health) capital brings about growth and prosperity.

So, what is happening in the Philippines? The Filipino economy is growing fast, but - over the last few years - domestic investment shrunk as a share of GDP. Being an open and growing economy, one must wonder: why the decline? (click on the graph in the top left corner).

I got very interested in understanding this, and - hoping to contribute - I wrote a paper on the subject. I hope you don’t mind me summarizing my own findings.

In the Philippines, three factors explain why investment does not grow at the pace of GDP:

1.    The public sector cannot afford it;
2.    The capital-intensive private sector (i.e.: those businesses that, when operating, utilize more capital than labor) does not want to expand that fast; and
3.    The rest of the private sector does not need it.

Here is why - I’ll try to be short … but bear with me, the devil is in the details:

•    First, the public sector is constrained by serious fiscal pressures, due to decades of weak revenue performance (i.e.: not enough tax-money to cover the expenditures) and a weighty debt service. Hence, it cannot keep public investment growing at GDP growth rates;

•    Second, the capital-intensive private sector does not find it convenient - as it expects little returns on each dollar it spends - to expand investment at the economy’s fast pace. For two reasons:

a.    The public sector does not invest enough to provide incentives for private investment. If there is no road, and the supply of electricity is spotty, why should you invest to open a business?

b.    Élite-capture in the traditional sectors of the economy. Assume you are part of the local élite; your company enjoys favorable rules and regulations - and is allowed to charge high prices; if this happens in a systemic way, this protection reduces other companies’ incentives to invest. In the Philippines, inputs are expensive because a few politically-connected corporate conglomerates enjoy barriers to entry and oligopolistic market power, and sell at a high price the products (agricultural commodities, transport services, electricity, cement, etc.) that are critical for the economy (a typical situation in developing countries, … but also in developed ones). Also, with their rents these conglomerates pay higher wages - relative to other Asian countries - to the salaried insiders, thus securing “national labor peace”; and

•    Third, the fast-growing businesses in the service sector - electronics assembly, voice-based business process outsourcing, and information technology - do not need to increase their investment at GDP growth rates to enjoy fast-rising profits. It’s the nature of the business: it needs little capital and lots of skilled labor.

Still reading? I’m sure at this point you are thinking: “OK, these three reasons explain why domestic investment is low. But what about conventional wisdom?”. Despite the decline in investment, the economy keeps growing. Why?

Because its least protected sectors - the informal labor market and the non-capital-intensive activities - stimulate demand and drive supply.

•    On the demand-side, work-seekers – denied entry into the formal labor market - migrate massively to industrialized economies, attracted by better remuneration; the resulting remittances and transfers (which, combined, account for over 13 percent of GDP) fuel consumption-led-growth (i.e. Filipinos abroad send money to their families in country, and these spend it).
•    On the supply-side, the innovative service sector and a few non-capital-intensive manufactures, still free from regulations that favor the local élite, boost exports.

What’s happening in the Philippines is quite common in developing countries. But, is it sustainable? And, more importantly, if the conventional wisdom is right – the current situation has a cost: growth is slower and less inclusive than it could be

In my paper, (which was cited in the Asia Times and well received by the Filipino press - see the op-ed in the Manila Times and the two articles in the Business Mirror: Article 1 and Article 2) I recommend that the Government  reduces unemployment and poverty and boosts investment via better-performing ecozones, a competitive exchange rate, greater Government revenues, and fewer élite-capturing regulations.

Do you agree? What else should the Government do - to make economic growth speedier and more sustainable?

Join the Conversation

April 14, 2008

Enjoyed reading your article. Hope more and more of these find their way into Philippine mainstream media, to better educate the public and present an in-depth discussions on the many issues we face as a nation.

Having said that, I wonder how much the underground economy contribute the the yearly GDP ?? Or is it even quantified in the goverment's annual economic computations ?? These are your village sari-sari store (Mom and Pop store), tire-vulcanizing shops, tricycle drivers etc ....

As the country's GDP grows at a faster rate, inevitably, the resulting economic activity trickles down into more businesses to these underground industries.

Alessandro Magnoli Bocchi
August 31, 2009

Thank you for your comment. I agree that capital is scarce and expensive. In the phrase you quote the point is precisely that the service sector, being less capital-intensive than the other sectors, suffers less. The constraints, as highlighted in the paper, are on the policy side.

June 06, 2009

This is a great summary of the causes and drivers affecting this situation. I would like to see foreign investment (or lack of) factored into this. It seems to me that the current situation of limited capital would cause money to flow into the country to drive these inefficiencies out.

Are there better alternative investments else where? Is there such a great structural barrier that it makes risk to high for foreign companies to invest?

Also, how does this translate into other traditional development economics models? How does this affect innovation or technology creation? Does the brain drain of so many OFWs help this situation by remitting capital or hurt it by taking potential domestic innovation outside the Philippines?

Tero Taipale
August 24, 2009


You state that "Third, the fast-growing businesses in the service sector - electronics assembly, voice-based business process outsourcing, and information technology - do not need to increase their investment at GDP growth rates to enjoy fast-rising profits. It’s the nature of the business: it needs little capital and lots of skilled labor."

Surely these companies determine their capital investments based on the cost and expected returns of capital. If capital was lower cost, they would invest more.

That they invest at such a low rate seems to be an indication that their costs are prohibitively high, either in interest or transaction costs.

Furthermore, if we discover that capital investments are unexpectedly low across the whole economy, we should see it as evidence that external restraints, be they political, administrative or financial, are preventing the economic sector from reaching its full growth potential.

Do you feel that declining investment in the case of the Philippines stems from purely macroeconomic causes, or could economic development be accelerated further by policy and financial reform?

Virginie Lafleur Tighe
March 09, 2008

In support to your paper, I would like to point out that under philippine corporate law, it's very difficult to increase a company's capital using the company's assets. Very strict rules apply when increasing capital with land (which already excludes foreign investors) and even more complicated procedures make increasing capital with productive equipments practically impossible.

Which means that many companies are operating with a capital that does not reflect their true worth. This is detrimental to the companies, whose search for credit is hampered by their low registered capital, and to the banking sector which is prevented from granting the credit.

Alessandro Magnoli Bocchi
March 10, 2008

Thank you for the interesting feedback. This is a very concrete insight on: (1) why companies have “low access to credit”; and (2) how this limited access to financial capital results in “low investment”. I will take your point into account in further research. Please keep the comments coming!

June 24, 2014

its true, many promising small businesses that cant maximize their potential because lack of access to credit.

March 27, 2008

Enjoyed the piece. But your "[a]ccording to conventional wisdom" hinges on notions of neoclassical economics, a theory still much revered by many. It reminds me a bit of the descriptions in "The economist has no clothes" (Robert Nadeau Sci. Am., 2008, 298:42), on how economists have forgotten the pseudoscience origin of such theory, viz., plugging economic variables in the equations of the conservation of energy principle of Helmholtz.

The Filipino government ought to analyse the arguments of Nicolas Stern about approaches violating neoclassical assumptions (approaches which he used when describing climate change economics).

December 25, 2009

I agree with your reading on the Philippine economy. Sadly, OFW remittances that could be an investment source only fuel the growth of mega-shoppings malls with China-made products. The government should have a comprehensive and pro-active role in assisting OFWs find productive uses for their hard-earned money.

Nonoy Oplas
March 28, 2012

This is the 2nd comment that I will post here, you disapproved or censored my earlier comment. There is no "puzzle", Remember your basic econ equation, Y = C+I+G+(X-M). Philippine economy is mainly C or consumption-led. C is 73 percent of GDP, so that even if I or G will grow slow, or even flat-line, but if C will grow fast, GDP can grow fast. What is puzzling about that?

Now you may ask, "is this sustainable?" Yes, it is, because a big source of C is OFW remittances, tens of billions of $ are coming in yearly, increasing trend. Many of those remittances are spent for household consumption like food, education, healthcare. But a big portion is also spent for private I like a tricycle, a jeepney, a sari-sari store, which the national accounting system is not able to properly account. No puzzle, no mystery. Only cute article title to grab public attention.

Claudia Gabarain
March 29, 2012

Dear Nonoy, sorry we didn't notice the first time you sent your comment. These past few days we've been inundated with spam email and they just buried yours. Thanks for taking the time to write again.
By the way, Alessandro Magnoli, the author of the piece, left the Bank a while ago, so it's quite unlikely that he'll reply to it.
Thnx for your interest,

-- Claudia

Blog Admin

June 24, 2014

yes economy are growing but it's favorably to big corporations, but for small scale industry we lack capital, access to it at very small interest rates can't be found. We suffer high taxes, high power rates and non-support of the government..