World Bank Document · 2018. 3. 26. · document of the world bank for official use only report no. 10866 program performance audit report philippines economic recovery program (loan

Document of

The World Bank

FOR OFFICIAL USE ONLY

Report No. 10866

PROGRAM PERFORMANCE AUDIT REPORT

PHILIPPINES

ECONOMIC RECOVERY PROGRAM(LOAN 2787-PH)

AND

ECONOMIC RECOVERY TECHNICAL ASSISTANCE PROJECT(LOAN 2788-PH)

JUNE 30, 1992

/ICROylCH/ CO

Operations Evaluation Department

This document has a restricted distribution and may be used by recipients only in the performance oftheir official duties. Its contents may not otherwise be disclosed without World Bank authorization.

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CURRENCY EQUIVALENTS

Currency Unit - Philippine Peso (P)

08/86 US$1 - P20.4701/90 US$1 - P22.46

ABBREVIATIONS AND ACRONYMS

APT Asset Privatization TrustCBP Central Bank of the PhilippinesCOA Commission on AuditCOP Committee on PrivatizationDBP Development Bank of the PhilippinesERL Economic Recovery LoanERP Economic Recovery ProgramEXIM Export-Import Bank of JapanGSIS Government Service Insurance SystemIFC International Finance CorporationIMF International Monetary FundLC Loan CommitteeNEDA National Economic Development AuthorityOECF Overseas Economic Cooperation Fund of JapanOED Operations Evaluation DepartmentO&M Operation and MaintenancePCR Project Completion ReportPIDS Philippine Institute for Development StudiesPNB Philippine National BankPPAR Program Performance Audit ReportQRs Quantitative RestrictionsSAL Structural Adjustment LoanSSS Social Security SystemTAL Technical Assistance LoanVAT Value Added Tax

FISCAL YEAR

January 1 - December 31

FOR OFFICIAL USE ONLYTHE WORLD BANK

Washington. D.C. 20433U.S.A.

of Directar-CeneralatMMln Evaluatko

June 30, 1992

KEMORANDUM TO THE EXECUTIVE DIRECTORS AND THE PRESIDENT

SUBJECT: Program Performance Audit Report on Philippines - EconomicRecovery Program (Loan 2787-PH) and Economic RecoveryTechnical Assistance Project (Loan 2788-PH)

Attached, for information, is a copy of a report entitled"Program Performance Audit Report on Philippines - Economic RecoveryProgram (Loan 2787-PH) and Economic Recovery Technical Assistance Project(Loan 2788-PH)," prepared by the Operations Evaluation Department.

Yves Rovani

by H. Eberhard K6pp

Attachment

This document has a restricted distribution and may be used by recipients only in the performanceof their official duties. Its contents may not otherwise be disclosed without World Bank authorization.

FOR OFFICIAL USE ONLYPROGRAM PERFORMANCE AUDIT REPORT

PHILIPPINES


andECONOMIC RECOVERY TECHNICAL ASSISTANCE PROJECT

(LOAN 2788-PH)

TABLE OF CONTENTS

Page No.

Preface . . . . . * * * . . * * * . - . * * * . . . . . . . . . . . .Basic Data Sheet . . * * * . * . . * . * . . . . . . . . . . . . .Evaluation Summary . . . * * . . . . . * . . . . . . . . . . . . . . ix


I. INTRODUCTION.......................... .

II. BACKGROUND: THE ECONOMY PRIOR TO 1986......... ... . 1

III. THE ECONOMIC RECOVERY PROGRAM.......... ...... . 3

IV. THE BANK'S ECONOMIC RECOVERY LOAN...............5

V. IMPLEMENTATION OF THE ERL.............. .... . 9

VI. OUTCOME: THE ECONOMIC SITUATION AFTER LOAN CLOSING.... . .. 11

VII. SELECTED ISSUES............... .... . . . . . 13A. Trade Regime.............. ... . . . .. 13B. Macroeconomic Management........ ... . . . .. 15C. Loan Design and Preparation....... .... . .. 19D. Coordination of Cofinancing... .... . . . . . .. 21E. Social Dimensions of the Adjustment. .... . . . . .. 21F. Debt Restructuring and Burden Sharing. .... . . . .. 22

VIII. OVERALL EVALUATION............ ..... . . . .. 22

IX. LESSONS FOR THE FUTURE........ ..... . . . . . .. 23

TABLES

1. Key Macroeconomic Indicators . . . . . . . . . . . . . . . . . 122. Effective Protection by Major Groups . . . . . . . . . . . . . 153. Gross Domestic Investment . . . . . . . . . . . . . . . . . . 164. Structure of National Government Revenues . . . . . . . . . . 175. National Government Expenditures for Operations and Maintenance 176. Real Effective Exchange Rates . . . . . . . . . . . . . . . . 19

This document has a restricted distribution and may be used by recipients only in the performanceof their official duties. Its contents may not otherwise be disclosed without World Bank authorization.

Table of Contents (cont'd)

Page No.

ANNEXES

I. Loan Agreement: Conditions for Tranche Release .... 25II. Release of the Second Tranche - Memorandum to the

Executive Directors............. .... . . .. 29III. Release of the Third Tranche - Memorandum to the

Executive Directors............. .... . . .. 36IV. Key Macroeconomic Indicators, 1980-90...... ... . . .. 42V. Philippines - Debt Outstanding and Disbursed.... . . . . .. 43VI. Comments from The Central Bank oi Philippines. .... . . .. 44VII. Projected and Actual Recovery Patterns. ........ . . .. 48

PROJECT COMPLETION REPORT

PART I: Project Review from the Bank's Perspective

1. Project Identity............ ..... . . . . .. 51

2. Background................. ..... . . .. 51

3. The Program for Economic Recovery........ .... . .. 52

4. The Program of Action under the Economic Recovery Loan . . . . 53

5. Program of Action under the Economic Recovery TechnicalAssistance Project . . . . . . . . . . . . . . . . . . . . . 55

6. Role of the Bank in the Design of the Operation. ... . . .. 55

7. Accomplishments of the Adjustment Program. ... . . . . . .. 56

8. Monitoring of the Adjustment Program..... .... . . .. 66

9. Conclusions............... .... . . . . . .. 66

TABLES

1. Key Macroeconomic Indicators....... .... . . . . .. 582. Government Tax Revenues............. .... . .. 593. Elimination of Quantitative Restrictions on Imports . . . . . 614. Government O&M Expenditures and Public Investment. ... . .. 62

PART II: Prolect Review from the Borrower's Perspective

1. Introduction................ ..... . . .. 69

2. Tax Reforms.................. .... . . .. 69

Table of Contents (cont'd)

Page No.

3. Trade Liberalization.......... ..... . . . . .. 72

4. Public Investments........... ..... . . . . .. 74

5. Government Financial Institutions...... ... . . . . .. 76

6. Overall Assessment........... ..... . . . . .. 81

TABLES

1. Economic Recovery Program Policy Matrix...... ... . .. 832. Status of the 1986 Tax Reform Package..... ... . . . .. 883. Revenue Impact of 1986 Tax Reform Package, 1986-1988 . . . . . 914. National Government Revenues, 1980-1990..... ... . . .. 945. Implementation of Phase I and Phase II of the Import

Liberalization Program . . . . . . . . . . . . . . . . . 956. Import Values of Commodities Liberalized under Phase I and

Phase II of the Import Liberalization Program, 1985-1990 . 97

7. Public Investments, 1980-1990.......... .... . .. 988. Real Levels of Expenditures of the National Government,

Obligations Basis, 1980-1990 . . . . . . . . . . . . . . . . 999. Total Assets, Loans and Discounts and Net Profit of PNB,

1980-1988 . . . . . . . . . . . . . . . . . . . . . . . . 10010. Key Financial Performance Indicators: PNB, 1986-1988 . . . . . 10111. Total Assets, Loans and Discounts and Net Profit of DBP,

1980-1988. ..... . . . . . '..........................10212. Key Financial Performance Indicators: DBP, 1986-1990 . . . . . 10313. Selected Macroeconomic Indicators, 1985-1990. .... . . ..10414. Selected National Income Accounts Data, 1986-1990 . . . . . 105

ANNEX

I. Comments on the PCR from the Development Bank of Philippines 106


PHILIPPINES

ECONOMIC RECOVERY PROGRAM(Loan 2787-PH)


(Loan 2788-PH)

PREFACE

1. This is the Program Performance Audit Report (PPAR) on two loans tothe Philippines: the Economic Recovery Program (Loan 2787-PH), for US$300million and the Economic Recovery Technical Assistance Project (Loan 2788-PH) forUS$10 million. Both loans were approved by the Board on March 17, 1987. Thefirst loan war closed on December 31, 1989. On the Technical Assistance Loan,the Bank advanced US$1 million to a speclai account in December, 1987, but thisadvance was refunded by the Government in February, 1990. The loan was cancelledundisbursed.

2. The PPAR was prepared by the Operations Evaluation Department, andthe attached Program Completion Report (PCR) was prepared by the CountryDepartment I, East Asia and Pacific Region. Part II of the PCR incorporates theGovernment's assessment of the operations.

3. The PPAR is based on the PCR, the President's Report, the loandocuments, economic and se7tor reports, loan and country files, and reports ontollow-on operations. OED staff interviewed present and former Bank staff andIMF staff who had been associated with these operations or with general countrywork. An OED mission visited che country Jn November, 1991. The missioninterviewed present and former government officials, the new authorities of PNB,DBP and APT, the Philippine Institute for Development Studies, private bankers,businessmen and academic economists to secure their views on these particularoperations and, more generally, on Bank assistance to the Philippines. Themission also visited the Manila offices of USAID, the Japan Overseas EconomicDevelopment Fund and the Asian Development Bank. Their kind cooperation andvaluable assistance in the preparation of this report is gratefully acknowledged.

4. The PCR presents a good account and assessment of the backgroundleading to these operations, of the preparation and implementation experience andof the outcome. Part II is particularly useful in reflecting the Government'sinsights and judgments regarding the loans. The PPAR presents an overallevaluation and draws some useful lessons for future adjustment and TechnicalAssistance operations.

5. The draft PPAR was sent to the Borrower for comments. The CentralBank of The Philippines responded and its comments are inccrporated throughoutthe PPAR and reproduced as Annex VI. On June 29, 1992 the Development Bank of

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the Philippines (DBP) informed OED that it took exception to a statement in thePCR regarding tha privatization of rBP (cf. PCR, page 65, para. 7.27). Thecommunication received from DBP is reproduced as PCR Annex I, page 106.

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PROJECT PERFORMANCE AUDIT REPORT

PHILIPPINES

ECONOMIC RECOVERY PROGRAM(LOANS 2787-PH)

BASIC DATA SHEET

LOAN POSITION(Amounts in US$ Million)

As of April 30, 1992Loan Original Disbursed Cancelled Repaid outstanding

2787 300.0 300.0 0.0 0.0 300.0

CUMULATIVE ESTIMATED AND ACTUAL DISBURSEMENr

FY 88 FY89 FY90 FY91

Appraisal Estimate (US$M) 100 200 300 300 (Revised)Actual (US$M) 200 200 200 300Actual as % of Appraisal (%) 200% 100% 67% 100%Date of Final Disbursement: January 3, 1990

PROJECT DATES

Original Actual

Initiating Memorandum 07/86 07/86Letter of Development Policy 11/86 01/02/87Negotiations 12/86 01/87Board Approval 10/86 03/17/87Loan Agreement 10/86 03/30/87Effectiveness N/A 06/04/87Lean Closing N/A 12/31/89Actual Completion N/A 01/03/90

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STAFF INPUTS(staffweeks)

Preappraisal Appraisal Negotiation Supervision Other Total

1987 3.2 65.7 18.3 7.7 3.6 98.51988 1.6 21.1 0.6 23.31989 12.8 12.81990 1,8 1.81.991 7.8 7.8

Total 4.8 65.7 18.3 51.2 4.2 144.2

MISSION DATA

No. of No. of Staff Date ofMonth/Year Weeks Persor.s Weeks Report

Appraisal 07-08/86 1.7 6 10.3 08/11/86Supervision I 05-06/87 2.3 2 4.6 06/08/87Supervision II 10-11/88 2.15 3 6.4 11/09/87Supervision III 11/88 2.4 2 4.8 11/22/88Completion 06/89 0.7 2 1.4 07/11/89

-v -

OTHER PROJECT DATA

Borrower/Executing Agency: Government of The Philippines

Follow-on Project(s):

Project: Economic Recovery TechnicalAssistance Project

Loan No.: 2788-PHAmount: US$10.0 millionBoard Date: 03/17/87

Project: Program for Government CorporationsLoan No.: 2956-PHAmount: US$200.0Board Date: 06/15/88

Project: Financial Sector AdjustmentLoan No.: 3049-PHAmount: US$300.0Board Date: 05/04/89

Project: Debt Management ProgramLoan No.: 3149-PHAmount: US$200.0Board Date: 12/21/89

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PROJECT PERFORMANCE AUDIT REPORT

PHILIPPINES

ECONOMIC RECOVERY TECHNICAL ASSISTANCE PROJECT(LOANS 2788-PH)

BASIC DATA SHEET

LOAN POSITION(Amounts in US$ Million)

As of April 30. 1992LoaD Original Disbursed Cancelle Reaid Outstanding

2788 10.0 0.0 10.0 0.0 0.0

CUMULATIVE ESTIMATED AND ACTUAL DISBURSEMENTS

EY.A FY89 Y0 X2 EX21

Appraisal Estimate (US$M) 0.5 3.0 7.0 10.0Actual (US$M) 0.0 0.0 0.0 0.0Cancellations 0.0 5.0 10.0 10.0

PROJECT DATES

Original Actual

Initiating Memorandum 07/86 07/86Letter of Development Policy 11/86 01/02/87Negotiations 12/86 01/87Board Approval 10/86 03/17/87Loan Agreement 10/86 03/30/87Effectiveness N/A 06/04/87Loan Closing N/A 12/31/89Actual Completion N/A 01/03/90

- vii -

STAFF INPUTS(staffweeks)

Preappraisal Appraisal Negotiation Supervision Other Total

1988 0.4 0.41989 7.8 7.8

Total 8.2 8.2

MISSION DATA

No. of No. of Staff Date ofMonth/Year Weeks Persons Weeks Report

Appraisal 07-08/86 1.7 6 10.3 08/11/86Supervision I 05-06/87 2.3 2 4.6 06/08/87Supervision II 10-11/88 2.15 3 6.4 11/09/87Supervision III 11/88 2.4 2 4.8 11/22/88Completion 06/89 0.7 2 1.4 07/11/89

OTHER PROJECT DATA

Borrower/Executing Agency: Government of The Philippines

Follow-on Project(s):

Project: Economic Recovery ProgramLoan No.: 2787-PHAmount: US$300.0 millionBoard Date: 03/17/87

Project: Program for Government CorporationsLoan No.: 2956-PHAmount: US$200.0Board Date: 06/15/88

Project: Financial Sector AdjustmentLoan No.: 3049-PHAmount: US$300.0Board Date: 05/04/89

Project: Debt Management ProgramLoan No.: 3149-PHAmount: US$200.0Board Date: 12/21/89

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PHILIPPINES

ECONOMIC RECOVERY PROGRAM(Loan 2787-PH)


(Loan 2788-PH)

EVALUATION SUMMARY

Introduction

1. When the Government of Corazon 2. The international communityAquino came to power in February 1986, welcomed the Aquino Administration andfollowing a peaceful revolution, the prepared to give it strong support,economic situation of the Philippines including debt relief and new money.was precarious. Economic growth had The US Administration designated thebeen negative in the last two years, Philippines as one of the "Bakerresulting in a cumulative loss of over Initiative" countries, which would15 percent in output per capita. The translate into full bilateral andunemployment rate in Metro Manila had multilateral backing in exchange formore than doubled, to 25 percent. The adoption of an approved program ofcrisis had hit the poor particularly structural adjustment. A generalizedhard, and three-fifths of the sense of urgency to help the fledglingpopulation were below the poverty democracy was shared by all donors,line. The country's infrastructure including the Bretton Woodshad been grossly neglected, and major Institutions.bottlenecks were emerging in power,transport and water. In spite of The Economic Recovery Proarprevious Bank-supported attempts atimport liberalization, the trade 3. With much help from the Fund andregime provided heavy protection to the Bank, the new Government drew up a

domestic industry, at the expense of Medium-Term Development Plan, theagriculture and exports. A heavy Economic Recovery Program (ERP). The

foreign debt burdened the public ERP's main objectives were:finances and the monetary authorities,who had been instructed to assume (i) poverty alleviation and socialexternal debt obligations of both justice;public and private entities. Much ofthe financial sector, public and (ii) growth acceleration with

private, was either bankrupt or in increased economic efficiency;distress. To deal with this daunting and,challenge, the Aquino Administrationhad to rely on a depleted civil (iii) reduction of the Governent's

service, because a high rate of involvement in the economy,turnover among upper level government giving greater emphasis to

officials had followed the transition private initiative.of power.

4. In support of the ERP the IMF (iii) Public Expenditures. Large

extended an 18-month standby increases in public expenditures

arrangement, complemented by a for investment and operations

Compensatory Facility, for a total and maintenance (O&M) in the

package of SDR 422 million. The social and economic sectors in

standby program --approved in order to bring these priority

September 1986-- provided for an expenditures back to levels that

expansionary fiscal program, to be had been normal in the recent

financed with increased foreign past.

assistance. The consolidated publicsector deficit was allowed to rise (iv) Reform of Government Financial

from 6.1 percent of GNP in 1985 to 7.5 Institutions. Major

percent of GDP in 1986 and to remain reorganization of the two

above 5 percent of GDP in the next two largest government-owned banks,

years. The program did not call for a the Philippirvs National Bank

real devaluation, but included wide- (PNB) and the Development Bank

ranging structural reforms, which had of the Philippines (DBP), which

been designed in close consultation were technically bankrupt.

with the Bank. Rationalization of the bankingsector, reducing the

The Bank's Economic Recovery Loan government's direct presence in

(ERL) the financial system toencourage greater private

5. In parallel with the IMF, the ownership.

Bank worked closely with the

Government to draw up its own 6. There was a considerable overlap

adjustment loan, the ERL, for US$300 between the ERL and parts of the

million. The ERL contemplated standby agreement. This was a

specific actions in four principal deliberate decision in order to ensure

areas: the coordination of both programs.The Region proposed to disburse the

(i) Reform of the Tax System. This ERL in three tranches, as a way of

included rationalization of enhancing supervision and

income taxes, streamlining of implementation. After loan approval,

indirect taxes, including the Japan Overseas Economic

substitution of a Value Added Cooperation Fund (OECF) contributed

Tax (VAT) for a Sales Tax, and Yen 30 billion (equivalent to US$240

improvements in tax million) of cofinancing, and the Japan

administration. Export-Import Bank (EXIM) cofinancedYen 50 billion (equivalent to US$300

(ii) Trade Reform. Implementation of million). Disbursements under both

import liberalization reforms cofinancing loans were expected to be

that had been agreed upon under linked to the releases of the three

previous SALs but either not tranches of the ERL, although the EXIM

fully implemented or implemented loan disbursements would finance

but reversed. Further investments under the government's

elimination of quantitative public investment program (PIP). Such

restrictions (QRs) and public arrangements involved the potential

announcement of a calendar and risk of conflicts when the timing of

schedule for tariff reform aimed bilateral disbursements, based on

at reducing protection and public investment execution, did not

making it less uneven, coincide with that of tranche

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releases, which are determined by the jalementation-of the ERLexecution of prescribedconditionality. 10. Two factors that helped achieve

a considerable degree of compliance7. The government's Letter of with the conditionality were, first,Development Policy and the President's the fact that much of the requiredReport spelled out the conditionality actions was taken prior to release oflinked to each tranche disbursement in the first tranche and, second, theconsiderable detail. The Loan recourse to three tranches rather thanAgreement, on the other hand, was the more frequent two.rather vague and imprecise as regardsthe conditionality. 11. Compliance was excellent in the

area of Government Financial8. Recognizing the Administration's Institutions. There was a remarkablelimited capacity to carry out the turnaround in the condition of DBP andproposed reforms, the Bank put PNB, and a new sunset institution, thetogether a US$10 million Technical Asset Privatization Trust (APT), wasAssistance Loan (TAL) to complement created to dispose of the many non-the ERL. It was proposed to focus the performing assets that wereTAL on the following areas: transferred from the books of those

two banks to the Government. A(i) Institutional strengthening of process of divestiture was initiated.

DBP and PNB.12. Significant reforms were carried

(ii) Disposition of non-performing out in taxation, the most significantassets to be transferred to the being the introduction, beforeGovernment by DBP and PNB. schedule, of a VAT in replacement of

sales taxes. The structure of income(iii) Study of social security taxes was also improved. These

institutions. measures, however, did not yield asmuch increase in revenues as had been

(iv) Strengthening the Central Bank's expected, because of two main reasons.regulatory functions. First, severe problems in tax

administration were not corrected and,(v) Supporting the Ministry of second, the shift from sales taxes to

Finance to improve expenditure the more complex VAT resulted in losscontrol and accounting. of revenues because of the extremely

short time that was allowed for the9. It is not evident that the change. The share of import duties inBorrower participated much in the total tax revenues declined somewhat,decision to include the TAL in the ERL but continued to be high (around one-package, or in the choice of areas of fifth).focus. It is similarly not evidentthat the actual activities to be 13. The process of importcarried out were well defined in liberalization was carried forwardadvance, in consultation with the under the ERL, and effectivemiddle-level Borrower staff that would protection was generally lowered as ahave been recipient of the technical result of the removal of QRs on aassistance. large number of items. But this

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process did not go as far as had been 16. Monitoring and supervisionplanned, owing to strong domestic missions were frequent and effective,opposition from business and Congress. and well coordinated with the IMF.The Government took several The Government participated fully withinitiatives to reduce import duties, its own periodic reporting, and thebut had to withdraw those initiatives Resident Mission provided valuablebecause of that strong resistance. support.Also, because import duties continuedto represent a significant part of Ototal tax revenues, a furtherreduction would have created serious 17. The country's economic situationfiscal difficulties. improved markedly during the period of

ERL implementation, 1987-89.14. The dual objectives of raising Stimulated by capital inflows and thepublic investment expenditures to 5 - return of confidence, imports and6 percent of GNP, and bringing O&M private investment revived and, withexpenditures in the social and considerable excess capacity in theeconomic sectors to their real 1982 system, economic growth accelerated.levels were not attained, owing to a Tax revenues increased some, the taxcombination of fiscal constraints on structure improved (although itsspending and institutional weaknesses. administration remained weak) and theManagement waived the first condition public sector deficit was reduced.when releasing the second and third The ERL contributed to thistranches of the loan, on the basis improvement in a number of ways.that there had been some significant First, by being part of aincrease in public investment comprehensive package that includedexpenditures, that their composition the IMF standby arrangement, strongwas appropriate, and that economic aid coordination and debt reliefgrowth was accelerating as a result of activities in which the Bank played aexpanding private investment. As key role. These efforts contributedregards O&M expenditures, at the time to relieve the foreign exchangeof release of tranches 2 and 3, constraint and reinforced the returnManagement believed that the targets of private sector confidence. Second,

were going to be met, although later the ERL helped by directly addressing

revisions to the figures showed that some critical problem areas, such asexpenditures had fallen short of the the distressed financial sector and

conditionality. the need for public spending inmaintaining the infrastructure.

15. Disbursements of the first twotranches of US$100 million each took 18. The growth momentum, however,place as originally planned, but the was not sustained. In 1990 GDP growth

third tranche was delayed pending fell, domestic and external balancescompletion of some required actions. widened and inflation accelerated.This delay required extending the While uncontrollable events -- terms of

closing date by six months. The TAL trade losses, a major drought, anwas cancelled at the government's earthquake, the Gulf war--

request. The authorities indicated precipitated the decline, it became

that they could carry out the proposed clear as well that underlyingactivities either with their own weaknesses limiting the effectiveness

resources or from grant sources. of macroeconomic policies had not beencorrected.

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19. Monetary and exchange rate were not reached. This was due inpolicy were compromised owing to the part to financial constraints, and inprecarious financial situation of the part to the design of theCentral Bank. This, in turn, made conditionality. The publictrade reform harder to pursue. The expenditure targets were set at thepublic sector deficit expanded, due to most aggregate level, expressed asgrowing subsidies on domestic energy percentages of GDP, without ndequateas adjustment to higher international attention to the reality underlyingoil prices was delayed. Thus, efforts such numbers. The loan package didto increase public investment and O&M not specify what those numbers meantexpenditures were continuously in terms of governmental jurisdictionsthwarted, and severe infrastructure involved, kind of expenditures to bebottlenecks continued to hamper included, sectorial and geographiceconomic growth. This experience distribution, etc. The institutionalserved to expose areas where the ERL capacity to carry out thosemight have been more effective, expenditures (which represented aparticularly trade regime and public large increase with respect to currentexpenditures. levels) were also not adequately

considered, even though Bank Projects20. The main elements of the staff were aware of the seriousGovernment's Import Liberalization administrative constraints.Program were the removal of QRs andchanges in the structure of tariffs, 22. Macroeconomic management issuesto be pre-announced in order to give contributed to the problemsclear signals for the private sector encountered, by not having tackledto invest in new export-oriented earlier the deteriorating financialactivities. Considerable progress was position of the Centrl Bank of theaccomplished une-er this program, and Philippines (CBP). By 1986 the CBPthe average level of effective was already experiencing heavy lossesprotection for the economy as a whole (realized and not realized) because itwas reduced from 49 percent in 1985 to had been instructed to take on36 percent in 1988. This reduction, extraordinary obligations. Thesehowever, fell short of what had been included assuming the foreign currencyexpected, and the average figure does liabilities of certain public andnot fully reveal the extent to which private enterprises, advancing theindividual sectors remained highly payment of foreign interest onprotected. Thus, "importables" for publicly guaranteed debt, and makingall sectors continued to receive an forced loans to failing firms. Toeffective protection of 75 percent, absorb the excessive liquidityand certain industrial sub-groups resulting from these losses, the CBPreceived effective protection higher had to carry out open marketthan 100 percent. The Government operations which further increased itstried repeatedly to pass legislation losses.making further progress towardsliberalization, but only in July 1991 23. Because of the CBP's financialit succeeded in passing a new tariff distress, monetary and exchange ratecode. policy conflicted with the ERL's

goals. The CBP's domestic borrowing21. In the area of public operations contributed to raisingexpenditures, the desired targets for domestic interest rates and toinvestment in key priority areas and crowding out the private sector, thus

p&M for social and economic sectors limiting the expansion of private

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investment. Furthermore, CBP's and to prevent a worse deteriorationexternal debt position made it of the physical infrastructure thanextremely vulnerable to exchange-rate what has been observed. All thesedevaluations, leading it to conduct a are very positive results.very conservative exchange-ratemanagement. Thus, the country's Lessons of Experienceeffective real exchange rate remainedovervalued, at least with respect to 26. The experience gained duringits main competitors for export design and implementation of the ERL,markets. This, in turn, made it was generally satisfactory. itharder to reduce further the levels of serves, nevertheless, to provideprotection and to stimulate private lessons that can be useful in futureinvestment in export-oriented adjustment operations. Most of theseactivities. lessons confirm findings of earlier

OED evaluations of adjustment loans inOverallaEvaluation different regions.

24. The ERL provided a vehicle to 27. The practice of multiRleestablish a fruitful dialogue of the tranchin can rovide an effectiveBank with the new Administration, tool to ensure fuller comliance with

This dialogue helped to create a the conditionality and obectives ofconsensus among the members of the adjustment operations.incoming Government on thedesirability to continue and deepen Coordination with Other Donorsthe reforms that had been initiatedunder the deposed regime. Although 28. In most cases the success of anthe specific results of this operation adjustment program is closely tied to

may have been mixed, and the progress the macroeconomic framework. The link

of the structural change since then takes place through the real exchange

may have been uneven, the process of rate, the mix between fiscal and

change was not interrupted, and monetary poicy, the choice between

follow-on operations are still revenue enhancement and expenditure

carrying it forward. Interviews in reduction to control a fiscal deficit,

the field conducted by OED staff etc. While the IMF has primary

confirmed that the Bank's intellectual responsibility for these areas, Bank

leadership provided an important staff need to ensure that the

influence during the transition structural adustment rogram that it

period. Had this been the only suorts is fully consistent with the

accomplishment of the ERL, it would macroeconomic framework. both in itshave been sufficient to consider the design and in its implementation. It

operation a success. may still be appropriate to repeathere one of the lessons derived from

25. But in addition to the above, the audit of the first two SALs to the

the program financed by this loan Philippines: "When designing

helped to drastically improve the structural adjustment programs it may

condition of the two largest not be sufficient for the Bank to

government-owned banks (BNP and DBP), leave matters of central economic and

to begin a profound process of financial management to be covered by

divestiture, to start the the IF in possible standby

restructuring and rationalization of arrangements."the tax system, to make some furtherprogress towards trade liberalization

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29. Coordinaticn of cofinancing 31. Close cooReration of Projects oractivities requires careful planning, Sector staff in the design anmaking sure that the donors understand suRervision of adjustment operationsthe need for the loan conditionality can be most valuable, even if theand fully share the conviction that primary responsibility rests withsuch conditionality is desirable. Programs or Country Operations. ThisRules for disbursement under various is particularly important in areastranching arrangements should be related to public investment andclearly spelled out in advance, and a maintenance of the physicalfinancing program drawn out early on, infrastructure, including assessmentsto ensure both that the available of the institutional capabilities.financing is consistent with thereform program and that disbursement Borrower Ownership and Participationdecisions of one donor do notundermine the reform program of 32. In designing Technicalanother donor. assistance projects it is Rarticularly

ImRortant to ensure full involvementInternal Bank Organization and particiRation of the Borrower. not

only at the highest levels, but also30. The Bank must make every effort at the middle levels where theto ensure that the institutional technical assistance will becapacity to carry out the desired delivered. This includes precise

program exists in the Government. formulation of work programs and termsThis is particularly relevant when of reference. Budgetary provisionsdealing with a young administration. and staffing arrangements for closeIn this connection, it can be risky to and intensive supervision of TALs needplan the elimination of a proven tax be made early on, before Board(even if it is sub-optimal) for a more presentation. Projects and sectorefficient tax (such as the VAT) before staff should normally be closelyadequate training and administrative involved in these activities.arrangements are fully in place foradministration of the new tax.


PHILIPPINES



(LOAN 2788-PH)

I. INTRODUCTION

1.1 This report evaluates the results of a loan in support of thePhilippines Economic Recovery Program, for US$300 million, and of a

complementary Technical Assistance loan for US$10 million, both approved by theBoard on March 17, 1987. The evaluation places these loans in the context of twoStructural Adjustment Loans (SALs) that preceded them, and of subsequent lendingoperations.

II. BACKGROUND: THE ECONOMY PRIOR TO 1986

2.1 After a long period of prosperity and growth, the economy of thePhilippines faced increasing difficulties during the latter part of theseventies. Between 1978 and 1981, the terms of trade fell by 30 percent. Publicexpenditures grew much faster than revenues. Large internal and externaldeficits were financed by heavy borrowing, mostly foreign. Inflationaccelerated. These difficulties were caused in part by external events.However, because the country had relied on a strategy of import-substitutingindustrialization, the industrial sector stagnated when the domestic marketbecame saturated towards the end of the decade.

2.2 To deal with the balance-of-payments crisis, the Government adopted a

stabilization program for 1980/81, supported by a standby arrangement for SDR 410million with the IMF. The program's objectives were to sustain economic growth,reduce the rate of inflation and strengthen the balance of payments. The Bankadded its support with a first Structural Adjustment Loan (SAL), for US$200million, approved in September, 1980. The SAL's objectives were to revitalizethe manufacturing sector through a combination of import liberalization, supportfor manufactured exports, incentives for industrial restructuring and newinvestments, and a program of major industrial projects to accelerate industrialdevelopment.

2.3 The country met most of the standby program's criteria. However, afterthe program's end the economic situation deteriorated again in 1982. Expectingthat a world economic recovery would boost exports and thus reduce the external

deficit, the Government pursued expansionary fiscal policies. But the externalenvironment deteriorated further, and the authorities had to resort tosubstantial external borrowing to cover the widening gap. A new one-year standbyarrangement with the IMF for SDR 315 million was put into effect in February

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1983. It called for a gradual restoration of aggregate equilibrium throughmonetary and fiscal policies.

2.4 Bank staff, having found that program implementation under SAL I hadbeen satisfactory, put together a second SAL. This loan, for US$302.3 million,was approved in April, 1983. The new loan continued to focus on industrial andtrade policies, in a further attempt to correct the bias against exportindustries. It also contemplated improvements in energy policy, aimed atspeeding up development of domestic energy resources and strengthening demandmanagement.

2.5 Implementation of SALs I & II took place during a period of increasingeconomic and political turmoil. The Philippine economy was suffering severedifficulties owing to the world recession, low foreign demand for itstraditional exports, high energy prices, sharply higher international interestrates and a domestic financial scandal. In August 1983, during the course of SALII, Benigno (Ninoy) Aquino -- the major opposition leader-- was assassinated.This event precipitated serious civil unrest in the country, accompanied bycapital flight, reduced capital inflow, widespread business and bank failures andsevere deterioration in the general economic situation. The country failed tomeet the standby performance criteria. In October the authorities requested astandstill on external debt repayments. Although the country had reversed someof the trade liberalization provisions of the SALs, the Bank released the secondtranche of SAL II in December 1983, in the expectation that the new restrictionswould be lifted soon.

2.6 Short term crisis management, in the midst of a deep recession,dominated government economy policy for the next two years. Inflationaccelerated, peaking at 66 percent during 1984. New import and exchangerestrictions were imposed, further eroding some of the progress towards tradeliberalization that had been made under the SALs. But during 1984 theauthorities began to regain control over financial developments and to restoreorder in the external accounts. Fiscal and monetary policy became morerestrictive and the exchange system was reformed, leading to a float thateliminated black market differentials. Then in December 1984 the IMF extendedan 18-month standby arrangement for SDR 615 million. This program helped torestore some financial equilibrium and reduce payment arrears. The 1983-85crisis had a heavy cost in terms of economic growth. Aggregate GNP dropped bymore than 10 percent, resulting in a cumulative loss of over 15 percent in outputper capita. The unemployment rate in metro Manila more than doubled, reaching25 percent.

2.7 With the rise to power of the Government of Corazon Aquino in February1986, following a peaceful revolution, the economic situation began to improve.The country was pacified, the external environment became more favorable, and thenew Government signalled a strong commitment to broad and comprehensive reformsto reduce corruption and rationalize economic management. All this helped torestore private sector confidence. But the problems facing the Philippineeconomy seemed almost intractable: the country's infrastructure had beenseriously neglected and major bottlenecks were emerging in power, water andtransport. The poor had been hit hard by the crisis: three-fifths of thepopulation were estimated to be below the poverty line. The trade regime

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continued to be highly protective of domestic manufacturing and discriminatoryagainst export-oriented activities and agriculture in general. A heavy foreigndebt burden was particularly onerous on the public finances and on the monetaryauthorities, who had been instructed to assume foreign debt obligations of bothpublic and private entities. Much of the financial sector was either bankruptor in distress. The task of rebuilding the country, furthermore, was madeparticularly hard by the large turnover of key upper level officials throughoutthe Government.

III. THE ECONOMIC RECOVERY PROGRAM

3.1 The international community welcomed the Aquino Administration andprepared to give it strong support. A Consultative Group meeting held in Tokyorecommended generous financial assistance, provided that the new Governmentadopted substantial policy reforms. The United States designated the Philippinesas one of the countries to be included in the "Baker Initiative", which wouldtranslate into full bilateral and multilateral backing in exchange for adoptionof an approved program of structural adjustment. A generalized sense of urgencyto help the fledgling democracy was shared by all donors, including the BrettonWoods Institutions.

3.2 With help from the Bank and the Fund, the new Government started todraw up a medium-term development plan, the Economic Recovery Program (ERP). TheERP had the main objectives of:

(i) providing greater attention to poverty alleviation and social justice;

(ii) accelerating growth and stimulating increased economic efficiency; and,

(iii) reducing the Government's involvement in the economy and giving greateremphasis to private initiative.

3.3 The ERP's objectives were consistent with the Bank's own view of thedevelopment priorities for the Philippines. Operationally, the ERP focused ona continuation of the major outstanding structural reforms that had been leftuntouched or uncompleted by the previous Administration.

3.4 The IMF immediately initiated Article IV consultations with the newauthorities, and a mission visited Manila during March 10-15, followed by othersin April, June and July/August, 1986. (The Bank's country economist participatedin some of these missions.) Although performance under the ongoing standbyarrangement was generally satisfactory, the new authorities chose to cancel itin advance of the third program review and to request a new 18-month standbyarrangement for SDR 198 million. This was complemented by a SDR 224 millionCompensatory Facility. Both were approved by the IMF in September 1986. Takinginto account that considerable adjustment had already taken place under theprevious program, the 1986-88 program did not aim at reducing externalimbalances, but rather at a revival of growth, calling for increased support fromexternal creditors.

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3.5 Consistent with the growth-oriented strategy, the Fund program raisedthe medium-term GNP growth target from a strong negative in 1984 and 1985 to 1.5percent in 1986, and to 6 - 7 percent for 1987. The programmed external current-account balance was also raised, from equilibrium in 1985 and a 3 percent of GNPsurplus in 1986 to deficits of 1.6 and 2 percent of GNP in 1987 and 1988respectively. The consolidated public sector deficiti was allowed to rise from6.1 percent of GNP in 1985 to 7.5 percent of GNP in 1986 and to remain at levelshigher than 5 percent of GNP in the following two years. The Fund recognized theimportance of an export-oriented foreign exchange policy for the success of thetrade liberalization program, and pointed out that the substantial realappreciation of the peso in late 1984 and early 1985 had been prejudicial.Nevertheless, noting that a limited depreciation of the currency had recentlytaken place, the IMF program did not call for further action on this front, inthe expectation that market forces would by themselves bring about the necessarycorrections. The Fund paper stated that foreign exchange intervention by themonetary authorities would be limited to help avoiding a real appreciation.

3.6 Included in the IMF program were wide-ranging structural reformmeasures, many of which had been designed in close collaboration with the Bank.These included:

(i) A tax reform package consisting of raticnalization of income taxes(globalization, reduction of high marginal rates), abolition of exportduties, simplification of indirect taxes, introduction of a Value AddedTax (VAT), increases in the minimum import duties to a 10 percentminimum, and withdrawal of tax exemptions.

(ii) Rationalization of public expenditures, setting minimum levels forinvestment and operation and maintenance outlays.

(iii) Reform of 214 public nonfinancial corporations, includingprivatizations, consolidations, and improving managerial practices.

(iv) Reform of government financial institutions, with emphasis on theDevelopment Bank of the Philippines (DBP) and the Philippine NationalBank (PNB).

(v) Trade liberalization, to restore and carry forward the reforms that hadbeen started under SALs I & II.

1 The IMF definition of Consolidated Public Sector was changed in 1986 toinclude, in addition to the National Government, 14 major and other smallerpublic corporations, local governments, the social security system, governmentfinancial institutions, and the Central Bank. The 1986 Standby Arrangement StaffReport explained that this expanded framework provided a broader measure of thesize of the public sector deficit and its financing claims on domestic andforeign resources. Cf., International Monetary Fund, Philippines - Staff Reportfor the 1986 Article IV Consultation and Request for Stand-By Arrangement,EBS/86/222, dated September 22, 1986, particularly page 5.

1i Ibid., page 14.

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(vi) Agricultural policies aimed at improving trading and marketingpractices and investment policies in key subsectors, with emphasis onsugar, coconuts and foodgrains.

IV. THE BANK'S ECONOMIC RECOVERY LOAN

4.1 rari-passu with the IMF preparation of its program the Bank started toprepare its own country assistant agenda and remained closely involved in thepolicy dialogue. An economic mission visited Manila in April, 1986 and itseconomic report provided a foundation for the Economic Recovery Loan (ERL)Q1.The report recommended the adoption of growth-oriented policies, to be financedthrough a much intensified effort at public resource mobilization (the reportpointed out that the country's tax effort was exceptionally low) and by expandedexternal financing through concessionary loans and debt relief. The reportidentified as major obstacles for sustained growth the overvaluation of theexchange rate and the excessive protection to domestic manufacturing, whichresulted in high negative effective protection for agricultural production andexports in general. It recommended to declare a strong government commitment toa policy of trade liberalization, with preannouncement of a calendar and schedulefor elimination of import restrictions and tariff reductions. The report alsourged a re-orientation of public expenditures towards maintenance and investmentaimed at removing constraints to the expansion of agricultural and industrialproduction. It called for the rationalization of the financial sector, includinglimiting the role of the Central Bank to traditional monetary authority functionsand redefining the role of government financial institutions.

4.2 In line with the agreed distribution of responsibilities with the IMF,overall macroeconomic and fiscal policy issues were handled by the IMF, as werequestions of exchange management. In preparatory discussions between the twoinstitutions, however, the Bank pressed for more decisive action towards anexport-oriented exchange rate and for an expansionary financial programming thatallowed for faster resumption of economic growth. As stated in the ERL'sInitiating Memorandum "...the public sector will have to be a leading force inthe recovery effort, given the uncertain political conditions and excess capacityfactors that limit private investment."!/ The Bank also felt that theprogrammed need for external financing should be larger than what the Fund wasplanning. The Fund's projections were based on its assessment of likelyavailability of foreign financing, whereas the Bank felt that it was up to theFund and the Bank to make a strong case for enlarged official aid. The Bank alsoquestioned the validity of defining the public sector deficit as including theCentral Bank losses, the recent change in the IMF definitions that resulted in

1t World Bank, The Philippines, A Framework for Economic Recovery (Report No.6350-PH, dated November 5, 1986).

1i World Bank, Initiating Memorandum for the Philippines Economic Recovery Loan,dated July 9, 1986, para. 12.

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a much larger deficit than under conventional definitions.Y The Bank arguedthat inclusion of the Central Bank large losses might lead to misleadinginternational comparisons, since the losses had been caused in part by failuresof the private sector to service its loans and not only by public sector spendingdecisions. In other countries, the Bank argued, such losses would show up underthe private sector financing gap.

4.3 The Fund, in turn, objected to the Bank's attempts to incorporate anexplicit real exchange-rate target into the ERL program, stating that a realdepreciation of the peso would automatically take place if there were asubstantial reduction in import protection and a continuation of flexibleexchange-rate arrangements. Another aspect of the proposed ERL that met withFund criticism was a Bank initiative to require overall minimum target Levels forgovernment expenditures for public inve- 'ment and operation and maintenance (O&M)expenditures. The Fund feared that such requirements could introduce unduerigidities in public finances, and expressed preference for a more detailedlisting of required expenditures, to be based on more careful technical reviewsby the Bank of individual expenditure items, and to be reprogrammed yearly takinginto account the evolution of the public sector deficit and its financing. TheFund also questioned the absence of conditionality regarding the sugar andcoconut subsectors, two important areas of concern.-

4.4 Such differences between the two Bretton Woods institutions, whileimportant, were on questions of specific details, but there was full agreementregarding the broad thrust of the strategy. Furthermore, there was an intensivedialogue between the two, which included production of joint papers and staffparticipation in each other's missions. The Bank's appraisal mission for the ERLcoincided with the visit to Manila of the IMF mission to negotiate the standby.This collaboration made it possible for the differences that arose to be resolvedconstructively.

4.5 The Loan Committee (LC) discussed the proposed ERL at a meeting on July21, 1986. Two IMF staff members participated in the discussion. At the Region'sproposal, the LC decided that the operation would have three tranches rather thanthe usual two, in order to permit closer monitoring of the program'simplementation. As regards exchange-rate policy, the LC accepted the Fund's viewthat it would be sufficient to use international reserve targets as a tool tomonitor the adequacy of the exchange rate. With respect to trade liberalization,the LC recommended that measures that had been agreed under previous SALs shouldbe fully carried out before Board presentation of the ERL. The LC also calledfor a reduction of maximum import duty tariffs to 30 percent as part of a longerterm program. The possible role of IFC in the privatization of state enterpriseswas discussed as well, but without arriving at specific decisions.

11 Cf., memorandum from Attila Karaosmanoglu, AENVP, to Mr. Hubert Neiss, ActingDirector, Asian Department, IMF; PHILIPPINES - Briefing Paper, dated July 3,1986.

I/ Cf., memorandum from Anoop Singh (IMF) to Mr. Hicks (Bank) Comments on theInitiating Memorandum for the Economic Restructuring Loan, dated July 1, 1986.

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4.6 Thanks to the intensive preparation that lasted almost one year, by thetime the ERL was presented to the Board considerable progress had already beenmade towards implementAtion of the program. Within the Government, Bank staffhad helped to bring about a substantial consensus regarding the thrust of theprogram. This in itself was a major achievement, since the RevolutionaryGovernment had brought together individuals of different backgrounds andphilosophies. Furthermore, many of the required actions had already been adoptedby the Government. 1 The policy content of the ERL was consistent with theeconomic report's diagnosis, and the proposed specific actions went aconsiderable distance towards implementing its recommendations.

4.7 The specific actions called for under the ERL's Action Program aredescribed in the PCR (Section 1.4). The four main areas were:

(i) Tax System Reform. Partial globalization of income taxes, increase ofpersonal exemption, reduction of higher marginal rates.Rationalization of indirect taxes, elimination of export taxes,substitution of a value added tax for sales taxes. Improvements in taxadministration.

(ii) Trade Reform. Implementation of the reforms that had been called forunder SALs I and II. These included removal of quantitative importrestrictions on a large number of individual items and reductions inthe import tariff levels. Many of these reforms had been totally ofpartially reversed in earlier years (paras. 2.5 and 2.6 suDR4).Additional elimination of import restrictions on 1,229 itemsrepresenting about 17 percent of the value of imports and announcement(by December 1988) of a comprehensive program for furtherliberalization and tariff reform aimed at reducing effective protectionand making it less uneven.

(iii) Public Expenditures. Restoration of a level of public investmentequivalent to 5 to 6 percent of GNP (about double the current levelsat the time of loan approval). Maintenance of O&M expeaditures in theeconomic and social sectors at least at their 1982 level in real terms(equivalent to a 60 percent real increase over current levels).Measures to improve the programming and monitoring of publicexpenditures.

(iv) Reform of Government Financial Institutions. The objectives were toreduce the Government's direct presence in the financial system,encourage private sector ownership and rationalize the organization ofthe sector. More specifically, the Action Program called for a majorreorganization of the two largest government-owned banks, the DBP andPNB, which accounted for almost half of the banking system asseth.These two banks were technically bankrupt, with 80 percent of theirportfolios being non-performing and representing a burden on the budgetequivalent to 4 percent of GNP.

2' Cf., World Bank, President's Report for the ERL and the TAL, Report No. P-4466-PH, dated February 23, 1987, pp.45-51.

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4.8 The considerable overlap of the Action Program under the ERL and thatof the standby program supported by the IMF (cf., para. 3.4 suRra) was notcoincidental. The two agencies had reached agreement on their assessments ofdevelopment priorities, and had decided to coordinate closely theirconditionalities.

4.9 Complemenfing the US$300 million of the ERL, the Bank helped securelarge cofinancing loans from Japan. Subsequent to the ERL agreement, the Export-Import Bank of Japan contributed Yen 50 billion (equivalent to US$300 million)and OECF contributed Yen 30 billion (equivalent to US$240 million).

4.10 The description presented in the PCR of measures included in the ActionProgram represents the substance of the ERL conditionality. In the LoanAgreement, however, the conditions were described in a far less specificmanner.- For example, the tax reform conditionality was only described as"Implementation of the 1986 tax reform program" without any further details ordefinitions. Further tax reforms were described as "studies for furtherimprovements to the systems applicable to individual and corporate income taxes,property taxes and fiscal incentives" to be completed to the Bank's satisfaction.There were no quantitative or qualitative guidelines regarding the new importtariff to be announced prior to a tranche release. In a similar manner, publicinvestment conditionality was only stated as "a public sector investment programwith content and level satisfactory to the Bank" without mention of the 5 to 6percent of GDP that the President's Report indicated, or to the sectorcomposition of the expenditures. O&M expenditures in the economic and socialsectors were not defined or quantified. Questions such as what governmententities (i.e., national and/or local governments, public corporations, etc.)were included, or which expenditures should be counted as acceptable O&M were notaddressed. With such vague legal wording, monitoring and enforcement of theconditionality was not an easy task.

4.11 Recognizing the limited capacity of the new Government to carry out thebroad and ambitious program of economic reforms, the Bank complemented the ERLwith a Technical Assistance Loan (TAL) that was included in the ERL packagepresented to the Board. The TAL program contemplated helping the Governmentimplement reforms in the following areas:

(i) Institutional strengthening of DBP and PNB.

(ii) Disposition of non-performing assets to be transferred to theGovernment by DBP and PNB.

(iii) Study of social security institutions.

(iv) Strengthening the Central Bank's regulatory functions.

V Cf., World Bank, Loan Agreement for the Economic Recovery Program, Loan No.2787-PH, dated March 30, 1987. Schedule 4, describing the conditions for releaseof each of the three tranches is reproduced as Annex I to this PPAR.

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(v) Supporting the Ministry of Finance to improve expenditure control andaccounting.

4.12 Coordination of the technical assistance project was supposed to havebeen taken over by the Ministry of Finance. The total project cost was estimatedat US$15 million equivalent, of which US$8 million would have been in foreignexchange costs. The proposed US$10 million loan would have thus financed 67percent of total project costs.Y The project, however, was not implemented.The Bank advanced US$1 million to a Special Account in December 1987, but thisadvance was refunded by the Government in February 1990. The loan was eventuallycancelled.

V. IMPLEMENTATION OF THE ERL

5.1 In assessing compliance with the conditionality it may be useful totake as a starting point the substance of the understandings, as reflected in theGovernment's Letter of Development Policy'/ and in the President's Report,rather than the specific covenants in the Loan Agreement which were exceedinglyvague.

5.2 The PCR presents a good description of the compliance with the loanconditionality and the process leading to release of the three tranches. Inbrief, formal compliance was most complete as regards the rationalization ofgovernment financial institutions, substantially complete in the area of taxreform, and partial in trade liberalization. There was no compliance in the areaof public expenditures for investment and O&M. The technical assistance loan wascancelled at the request of the authorities, who preferred to carry out theactivities with their own resources or to finance them from grants.

5.3 Much of the conditionality regarding the reform of government financialinstitutions was carried out prior to Board presentation of the loan. Asexplained in the PCR, the main achievements were:

(i) Redefine Financial Sector Policy to open up the sector to competitionfrom private banks, privatize six banks that had been acquired and,more generally, increase transparency and accountability.

(ii) Restructure drastically DBP and PNB to bring them back to a healthyfinancial position, by means of profound rehabilitation programs, andtransfer of their non-performing assets to a newly created AssetPrivatization Trust (APT) for disposal.

9i Specific aspects of the TAL were described in Annex VII of the President'sReport (Op. cit.).

_t Republic of the Philippines, Ministry of Finance, Letter of DevelopmentPolicy, dated January 2, 1987. Reproduced as Annex V in the President's Report(Op. cit.).

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(iii) Begin a process of divestiture of banks that had been acquired by theState and of companies that had been taken over by the APT.

5.4 In the area of Tax Reform the principal innovation was the introductionof a Value Added Tax (VAT) to replace sales taxes. This was done ahead ofschedule, with technical assistance from the IMF. Income taxes were largelyglobalized, personal exemptions were raised to exclude low-income households, taxbrackets were simplified and the top marginal tax rates were significantlydropped. As noted in the PCR, timely implementation of these measures did notlead immediately to the expected results in terms of higher revenues owing tosevere institutional weaknesses in tax administration and to the normaldifficulties in introducing a value added tax. One consequence of the shortfallwas that taxes on trade continued to represent an important source of revenues,making the process of tariff reduction more difficult.

5.5 Trade Reform measures focused initially on recovering the gains towardstrade liberalization that had been initiated under SALs I and II. Additionalprogress was expected in the elimination of quantitative restrictions (QRs). Asregards import duties, the Government promised to announce a comprehensive tariffreform program (with minimum tariffs of 10 percent and maximum of 50 percent) anda calendar for its implementation by December, 1988. Progress was on scheduleduring the first year of ERL implementation but some delays were encounteredduring the second year, owing to strong domestic opposition to further importliberalization. Selected tariff reduction measures were introduced in 1989, butwere not approved. The comprehensive tariff reform program was not announceduntil July 1990, but congressional opposition blocked its implementation. Inspecific cases low duties (below the 10 percent flnor) were reinstated. Theoriginal objective of substantially lowering overall protection was not fullyaccomplished during the implementation of the ERL, as removal of QRs wascompensated by introduction of higher tariffs. These higher tariffs took theform of surcharges on those specific items for which QRs were being removed.

5.6 The overall objective of raising the ratio of public investment to GNPto between 5 and 6 percent was not achieved. The PCR indicates that budgetedamounts were adequate to meet the targets, but that appropriations fell shortowing to a combination of financial constraints and limited implementationcapacity. Operation and maintenance for the social and economic sectors alsofell short of the targets -- i.e., to regain their 1982 levels in real terms-- asa consequence of administrative and financial constraints. These two conditionswere later incorporated in the Debt Management Program loan (No. 3149-PH) andwere reported by Management to have been met for the year 1991.L'

5.7 Disbursements of the first two tranches of US$100 million each tookplace in line with the original schedule. In releasing the second tranche,Management waived the minimum public investment requirement and the conditionrequiring completion of studies on further tariff reform. As regards O&Mexpenditures, Management explained that its projections for 1987 showed that the

11 World Bank, Philippines: Debt Management Program (Loan 3149-PH): Release ofthe Second Tranche - Waiver of Two Conditions, R92-50 dated March 26, 1992, para.15.

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condition would be substantially met.- Release of the third tranche wasdelayed owing to constraints in fulfillment of some conditions, notably thoseregarding public expenditures, trade liberalization and the privatization of sixbanks. At the Government's request, the Bank agreed to extend the loan closingdate from June 30, 1989 to December 31, 1989. The third tranche was finallyreleased just prior to the extended closing date. Management indicated that ithad again waived the condition on minimum public investment levels, on thegrounds that there had been substantial progress during 1989, and that thecomposition of the public investment program was satisfactory. As regards O&Mexpenditures, Management indicated that its projections for 1989 implied anexpenditure level in excess of the agreed benchmark.13 1

5.8 Monitoring and Supervision were frequent and effective, assisted bythe Resident Mission. Frequent visits to the country by Bank sector staff onproject-related missions and by IMF consultation missions contributed to keepHeadquarters staff up to date on implementation. Periodic reports prepared bythe Borrower helped to keep a constructive dialogue open at all times duringimplementation. The process of tranche release, repeated three times, alsoprovided opportunities for the Bank and Borrower to take stock of progress andto adopt mid course corrections when necessary.

VI. OUTCOME: THE ECONOMIC SITUATION AFTER LOAN CLOSING

6.1 Macroeconomic indicators improved in 1987-89, the years of ERLimplementation. Stimulated by the return of confidence, a marked improvement inthe terms of trade and by foreign capital inflows at a time when the Philippineeconomy had considerable excess capacity, economic growth accelerated, privateconsumption expenditures per capita recovered, the overall investment ratio rose,and inflationary pressures abated. The economic expansion also benefitted thepoor, and the proportion of the population below the poverty line dropped fromthree-fifths to one-half. Tax revenues also improved, albeit not by as much ashad been planned, owing to severe administrative weaknesses. The structure ofthe tax system became sounder and more equitable, although it continued to relyexcessively on trade tax revenues. The public sector deficit was reduced. Thefollowing table, partially based on macroeconomic indicators recently suppliedby the Region,' shows that a strong resumption of official loan disbursements

.1 World Bank, PHILIPPINES - Progress of the Economic Recovery Loan, Memorandumto the Executive Directors SecM88-320, dated March 23, 1988, Para. 14.

L World Bank, PHILIPPINES -- Release of the Third Tranche of the Economic RecoveryLoan, Memorandum to the Executive Directors dated December 22, 1989, SecM89-1607,para. 13. The O&M projections, however, were not realized, and the trancherelease condition was not met. Cf. Table 5.

.U "Key Macroeconomic Indicators", reproduced as Annex IV. This table, basedon a set of revised National Income Accounts released by the Philippine NationalStatistic Coordination Bureau in February 1992, has been provided by the Region

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and direct foreign investment helped finance a fast expansion of imports, wellin excess of export growth. This in turn made it possible for both investmentand consumption to outpace output growth without generating excessive inflation.

Table 1: MX MACROECONO*IC INDIAM

1985 1986 1987 1988 1989 1990

Growth Rates (M) P.a.:

GDP -7.3 3.4 4.8 6.3 6.1 2.4

Private consumption -3.5 0.9 1.6 3.8 2.6 3.0

per capita

Imports GNFS (US$) -14.2 10.2 28.6 19.6 15.2 10.0

Exports GNFS (US$) -16.6 17.1 6.5 14.7 10.7 1.3

Inflation (CPI) 23.1 0.8 3.8 8.8 10.6 12.7

Ratios and Indexes:

Total Investment/DP 15.3 16.0 18.0 18.4 21.8 22.5ratio

-Of which: Private 11.6 13.1 14.9 15.2 17.7 17.2Investment/GDP ratio

Terms of trade/ 100.0 114.7 117.3 128.1 119.4 111.2

index (1985 - 100)

Current account -0.3 3.2 -1.3 -1.0 -3.4 -6.1balance/GDP

Public Sector 5.9 5.0 2.8 3.1 4.5 5.5

Deficit/GDP ratio

Tax Revenues/GDP 11.4 12.1 13.5 11.3 12.8 14.0ratio

US$ milliones

Direct foreign 17 140 326 986 843 480

investment

Official loan 716 912 998 938 1,324 1,760

disbursements

Trade balance 482 202 1,017 1,085 2,598 4,020

Sources: Annex IV, PCR Part II, various Bank reports, World Debt Tables.

6.2 To what extent can this remarkable improvement be attributed to theERL? In part the ERL contributed directly to the recovery by addressing real

and supersedes Table 1 of Part I of the PCR. OED has not evaluated the new setof netional accounts data.

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obstacles to growth, as indicated in the PCR. But more important, the ERL waspart of a comprehensive package that included the Fund standby arrangemant,strong debt relief and aid coordination activities in which the Bank played amajor role, as the PCR also recognizes. All these efforts resulted in arelaxation of the foreign exchange constraint and reinforced the return ifconfidence by the private sector. Real progress had been made towards improvingthe structure of the tax system and the financial health of government financialinstitutions. A process of privatization was well under way.

6.3 The observed improvements, however, were not sustained. By 1990 GDPgrowth had fallen drastically, inflation was accelerating, the public sectordeficit was rising, growth of export earnings came to a temporary halt and theexternal account deficits widened to unsustainable levels. Uncontrollable eventsin 1989-90 precipitated the decline. The terms of trade worsened sharply, anda prolonged drought affected major crops and power supply. An earthquake and theGulf War compounded the adversities. These challenges, however, revealed as wellthat many of the fundamental weaknesses of the economic system had not beencorrected.

6.4 The stifling physical bottlenecks in power, transport and otherutilities persisted, more acutely than before as a result of three years ofeconomic growth that outpaced the expansion of infrastructure. Extreme povertyremained an intractable problem. The trade regime continued to provide negativeprotection to exports and agriculture. This discrimination was compounded by themaintenance of an overvalued exchange rate. The latter, in turn, could not becorrected by the monetary authorities because of the precarious situation of theCentral Bank. Although the structure of foreign debt had improved, with a shiftaway from short term and conventional loans towards official and concessionarylonger term, debt service remained a heavy burden, with interest paymentsabsorbing close to 6 percent of GNP and a debt service burden equivalent to aboutone-third of export earnings. Domestic public debt, furthermore, had risensharply from 19 percent of GDP in 1985 to almost 25 percent in 1989, becoming asource of financial distress.

VII. SELECTED ISSUES

A. Trade Regime

7.1 The main elements of the Government's Import Liberalization Programwere the removal of quantitative import restrictions imposed by the Central Bankand the Board of Investment, together with changes in the structure of tariffs.Duties on some import items were raised to protect industries where QRs wereremoved, and on other import items duties were reduced in efforts to rationalizethe tariff structure and reduce protection on intermediate goods. The system ofinvestment and export incentives was also revised under the Omnibus InvestmentCode of 1987.

7.2 The combined effects on effective protection of the various measures

adopted by the Aquino Administration have been assessed by the Philippine

- 14 -

Institute for Development Studies (PIDS). The estimates of effectiveprotection of domestic value added (based on price comparisons with similarproducts in Hong Kong or Singapore) show that progress was made towards reducingeffective protection between 1985 and the end of 1988.-L The overall rate ofeffective protection for all sectors dropped from 49.0 percent to 36.4 percent.But these very aggregated numbers obscure wide differences in effectiveprotection across sectors, as well as within "importable' and "exportable" goods.As shown in Table 2, in all cases the former category enjoys high protection.In fact, the effective protection for exportables continues to be significantlynegative in several of the categories analyzed here.L The effectiveprotection of importables, on the other hand, is as high as 75 percent for allsectors combined, and reaches 80 percent for all manufacturing, 97 percent forBeverages and Tobacco and almost 300 percent for Machinery, including Electricand Transport Equipment. The extremely high rates for the latter categories area consequence of the continuing import restrictions -- including outrightprohibitions-- for protective purposes.

7.3 These results were contrary to the spirit of the ERL in the area oftrade reform. The Aquino Government had indeed been committed to further deepenthe import liberalization process. Evidence of such commitment was given whenthe authorities proposed Executive Order 413 (EO 413) in July 1990. Thislegislation would have reduced the level and dispersion of nominal rates to arange of 3 - 30 percent. Its implementation would have reduced effectiveprotection by one-third, thus making exports more profitable. But the Governmentwas forced to withdraw the proposal in the light of intense domestic opposition,particularly in Congress. In July 1991, after extensive discussions withCongress and the private sector, a new tariff code was finally enacted (EO 470).The new EO is expected to accomplish substantially the same tariff reductionobjectives as the original one, but with a gradual implementation, in steps overa five-year period. The Bank has continued to press for a more export-orientedtrade policy, which is a pre-requisite for sustained economic growth.

.L Philippine Institute for Development Studies, An Assessment of Trade andIndustrial Policy, 1986-1988, by Erlinda M. Medalla, Working Paper Series No.90-07, January 1990.

L6 This situation is not believed to have changed much as of the closing of theERL or even as of May, 1992, when the present audit report was written.

-U "Negative effective protection" for exportables is equivalent to an export taxthat results from the fact that the potential exporter is required to purchaseinputs locally at prices that exceed international prices. An effective systemof drawbacks and/or export subsidies could have wiped out this negativeprotection. "Exportables" have been defined as those products that arepredominantly exported, and "importables" as products for which importingsubstantially exceeds exporting.

- 15 -

Table 2s EFFECTIVE PROTECTION BT MAJOR GROUPS

1985 1988

All Sectors 49.0 36.4

Exportables -7.9 -4.1Importables 102.2 75.1

Agriculture, Fishing and Forestry 9.0 5.2


Mining -0.2 -2.0


All Manufacturing 73.3 55.5


Beverages and Tobacco 45.3 42.9


Paper, Rubber, Leather and Plastic 240.5 107.9


Non-Metallic Minerals 159.9 159.2


Machinery, Electric and Transport 239.6 169.5

Exportables 0 0Importables 405.1 286.5

Source: Philippine Institute for Development Studies, An Assessment of Trade and IndustrialPolicy, 1986-1988, by Erlinda M. Medalla, Working Paper Series No. 90-07, January 1990,Table 9.

B. Macroeconomic Management

7.4 The general thrust of macroeconomic management was not fully conduciveto attaining some of the basic restructuring objectives of the ERP. Theseobjectives included the deep opening up of the economy, the redirection ofprivate investment towards export diversification and a rebuilding of thecountry's productive infrastructure to eliminate physical bottlenecks. Toachieve these goals would have required maintenance of an aggressive exchangerate policy, availability of credit for private investment at a reasonable cost,a restructuring of taxes away from foreign trade and a strong expansion inselected public expenditures in O&M and investment.

- 16 -

7.5 But, in the absence of a strong fiscal adjustment, demand managementhad to rely on a conservative monetary policy. This mix of fiscal and monetarypolicy, together with the effect of the external debt overhang, led to a crowdingout of credit to the private sector. Real interest rates became high (exceedingat times 10 percent) and volatile, discouraging private investment. Althoughthere was a recovery of credit to the private non-financial sector and of privateinvestment in 1987-89, both did not recover their pro-crisis levels.-81Investors had to finance increasingly out of equity, and debt-equity ratios forthe largest companies declined from about 1.1 to 1 in 1985 to 0.45 to 1 in1989.

Table 3: GROSS DOMESTIC INVESTMENT(as percentage of GDP)

National Government TotalTotal Private Government Corporations Public

1980 29.1 20.6 3.4 5.0 8.51981 27.5 16.5 4.5 6.4 10.91982 27.9 20.4 2.9 4.6 7.51983 29.6 23.5 2.8 3.3 6.11984 21.8 16.4 1.9 3.5 5.41985 15.3 11.6 1.5 2.2 3.71986 16.0 13.1 1.9 1.0 2.91987 18.0 14.9 1.9 1.1 3.01988 18.4 15.2 2.1 1.1 3.21989 21.8 17.7 2.5 1.6 4.11990 22.5 17.2 2.7 2.5 5.2

Sources: National Statistic Coordination Board, National Income Accounts, baseyear 1985, February 1992; R.G. Manasan, The Size. Financing andImpact of the Public Sector Deficit. 1985-84, PIDS, 1988; GovernmentCorporate Monitoring and Coordinating Committee, various years;Department of Budget and Management, various years.

7.6 The failure to raise more significantly tax revenues from the VAT andfrom direct taxes had several negative consequences for the adjustment process.First, the share of import duties in total National Government revenues did drop,but not enough. As a consequence of the inability to raise revenues from othersources, the authorities found it difficult to further reduce taxes on imports.

L World Bank, Philippines: Capital Markets Study, Report No. 10053-PH, datedFebruary 24, 1992, Chapter II.

- 17 -

Table 4: STRUCTURE OF NATIONAL GOVERNMENT REVENUES(Percentages)

1980 1984 1986 1988 1990

Direct Taxes 24.7 28.1 31.5 32.6 33.4Indirect Taxes 75.3 71.9 68.5 67.4 66.6-of which: Import Duties (24.7) (27.0) (19.7) (19.4) (21.8)

Source: World Bank, The Philippines: Country Economic Report,Report No. 10056-PH, dated February 20, 1992, page 26,

7.7 The shortfall in revenues also contributed (together with institutionalweaknesses) to prevent the Government from reaching the planned levels of publicinvestment and of O&M. Thus, the country's productive infrastructure continuedto deteriorate.

Table 5: NATIONAL GOVERNMENT EXPENDITURES FOR OPERATIONSAND MAINTENANCE

(In constant billion pesos, 1982 prices)

1980 1982 1984 1986 1988 1990

10.8 12.4 6.2 7.7 9.3 10.1

Source: Data provided by the Philippine authorities.

7.8 The macroeconomic work connected with the ERP does not seem to haveidentified the deteriorating financial position of the Central Bank of thePhilippines (CBP) as an issue to be addressed. This problem, however, turned outto have been one of the major impediments to the success of the program. Asexplained in the Capital Market Study,' in 1986 the CBP was asked to assumethe foreign currency liabilities of certain public and private enterprises,including commercial banks. The CBP also advanced the payment of moratoriuminterest on maturing obligations of certain public corporations guaranteed by the

ni Capital Market Study, Op.cit., Chapter IV.

- 18 -

National Government (NG), the peso equivalent of which had not been paid to theCBP. These liabilities led to large realized and unrealized losses. As aresult, the CBP had to finance a substantial part of the fiscal deficit thatshould have been assumed by the NG. The CBP's losses arising from these andother related transactions -- such as forced loans to failed or failing financialinstitutions, swap cover and open market operations aimed at absorbing domesticliquidity-- averaged 2.3 percent of GNP, almost as large as the overall deficitof the NG in 1986-89.

7.9 Because of its financial distress, the CBP's ability to conductappropriate monetary and exchange rate policy was severely compromised. Byfinancing its mounting losses through issuance of short-term bills and otherinstruments, it contributed to raising domestic interest rates and to crowdingout the private sector. Furthermore, the CBP's net external debt position hasmade it extremely vulnerable to exchange-rate devaluations, because a devaluationcauses a proportional increase in peso-denominated interest payments on itsexternal debt and an almost proportional worsening of its net interest incomeposition. This helps explain at least in part the very conservative exchange-rate management, which has resulted in an overvalued exchange rate, thusdefeating the objectives of import liberalization and export diversification.

7.10 Attempts to assess the adequacy of the exchange rate do not yieldunambiguous results. Exchange-rate policy in the Philippines has been a "managedfloat" consisting of maintaining a fixed nominal rate with the U.S. dollar foras long as feasible, to be followed by a major devaluation after a balance-of-payments crisis. However, to succeed in a policy of strong exportdiversification and growth, and to be able to effectively reduce protection fromimports, the country needs to maintain a competitive edge with respect not onlyto its major trading partners (i.e., the United States, Japan, the United Kingdomand Germany) but, more important, to its potential competitors, notablyIndonesia, Malaysia and Thailand. During the early part of the ERLimplementation, the peso depreciated with respect to the major trading partners:there was a 26 percent real effective depreciation between 1985, when the pesowas clearly overvalued, and 1988. But in the same period the peso appreciatedby 15 percent with respect to the competiters. During the later part of the ERL,until mid-1989, the peso appreciated in real terms by about 7 percent againstboth sets of comparators, in spite of a nominal devaluation of 9 percent againstthe dollar. A 20 percent nominal devaluation against the dollar in the secondhalf of 1989 helped to redress the overvaluation momentarily. But taking alonger view, the effective exchange with respect to the competitors in 1990 wasalmost twice its 1980 level. There is a broad consensus among analysts of thePhilippine economy that a more aggressive and consistent export-orientedexchange-rate policy is needed to bring about a sustained economictransformation.L-

-t Cf., World Bank, Capital Market Study (op. cit.) and Country Economic Report(op. cit.), PIDS, An Assessment of Trade and Industrial Policy, 1986-1988 (op.cit.) and PCR, Part II. The CBP has indicated partial agreement with thisassertion, stating that, "while aggressive export-oriented exchange rate isnecessary for a sustained economic transformation, this, however, should becategorically supported by appropriate policies in other areas of the economy"(cf. Annex VI).

- 19 -

Table 6: REAL EFFECTIVE EXCHANGE RATES(Index, 1980 - 100)

1980 1986 1987 1988 1989 1990 1991

Against Major Trading Partners 100 71 67 66 70 67 66

Against Major Competitors 100 99 114 117 124 121 122

N1U: An upward movement means appreciation.

Source: Nathan Associates, Inc. and Louis Berger International, Inc., Evaluationof the Philippines Support for Development Program, (Submitted toUSA:D/Manila) May 1991, as ammend by CBP (cf. Annex VI).

C. Loan Design and Preparation

7.11 The Region devoted considerable efforts towards preparation of thisimportant operation. These involved helping develop a consensus within therevolutionary government in support of continuing the liberalization process thathad started under the previous government, coordinating with other donors toprovide debt relief and secure additional aid, and design a package of reformsthat was at the same time comprehensive, ambitious and feasible. Considerableattention was paid to the supporting economic and sector work, including the needfor a public investment review and of complementary sector work.11 In the areaof macroeconomic management the Bank collaborated intensively with the Fund, butultimate responsibility rested with the latter. As regards public expenditures,on the other hand, the Bank was in charge. This is an area were the operationdid not fully succeed, as evidenced not only by the failure to meet thequantitative expenditure targets and calendars, but more so by the observationthat severe power shortages are asphyxiating the life of the country in the majorindustrial area of Luzon, and bottlenecks in transport and public utilities haveworsened during the life of the loan.

7.12 One weakness of the loan design was that targets for public investmentand for O&M expenditures were established at the most aggregate level, expressedas levels of expenditure as a share of GDP, without adequate attention to thereality underlying those numbers. The loan package did not define precisely whatthe targets meant in terms of the governmental jurisdictions involved, the kindof expenditures included, their sectorial composition and geographicdistribution. Given that the Bank correctly identified the high priority ofrebuilding the physical infrastructure, it would have been operationally more

L C.f., Memorandum from Attila Sonmez, Philippines CESW--FY86-88, dated April4, 1986.

- 20 -

productive to indicate physical targets, be it in terms of kilometers of roadsto be repaired, additions to electrical generating capacity, etc. This shouldhave been complemented with an analysis of the instf+.utional capacity of thevarious implementing agencies to carry out their mandate.

7.13 Bank projects staff were well aware of the precarious institutionalsituation in most of them, to the extent that as of the Autumn of 1986 only 13percent of the Bank projects under implementation were problem free, and theaverage implementation delay from the original targets was 33 months." Theinadequate implementation capacity of the new Government was noted by theappraisal mission, which noted:Ls

"While the large increase in the 1986 investment budget isjustified to restore the program to an adequate level, acontinued rapid increase during 1987 by 38% appears excessive.In particular, the large increase in the budget for theMinistry of Public Works and Highways, and the Ministry ofTransportation and Communications (MPWH/MOTC) of about 56% ontop of the large increase in 1986 may substantially increasethe risk that investments will be made in marginal projectsand severely tax the implementation capacity of the ministry."

7.14 In spite of these warnings, in designing the loan conditionality theBank adopted an optimistic position regarding the feasibility of the proposedinvestment levels:24

"The substantial increase in the investment program for thenational government of about 37 percent represents largelycarry-over activities from 1986. The investment program ofP 9 billion for the MPWH/MOTC is expected to be well withintheir present implementation capacity as measured against anachieved investment program of 8.5 billion during thedifficult period of 1986."

7.15 The institutional and design weaknesses that seem to have beenoverlooked during preparation became apparent in later stages of implementation.The inadequate definition of 0&M expenditures -- what was included in them, whichwere the responsible entities-- complicated the supervision function. As regardspublic investment, the extent of the implementation constraints was identifiedat mid-course. These constraints included lack of in-house capability and

L' World Bank, PHILIPPINES - 1986 Country Implementation Review of World BankFinanced Projects, Background Paper dated October 3, 1986, page 1, and Back-to-Office Report on Operational Discussions from John Cleaver, Deputy Chief, AEPA2to Ralph Wadsworth, Chief, AEPA2, dated November 17, 1986.

L' Back-to-Office Report of the Appraisal Mission, dated August 1, 1986, AnnexIV.

Lt World Bank, PHILIPPINES - Selected Issues in Public Resource Management,Report No. 6887-PH, dated April 15, 1988, para. 2.25.

- 21 -

manpower for project preparation, cumbersome and stringent practices for approvalof projects, inadequate links between planning and budgeting, slow preparationof detailed engineering studies and bidding documents, slow selection ofcontractors, diffused responsibility of implementing agencies and inadequatesupervision of civil works.

7.16 It is probable that closer involvement of Projects staff in the designof the public expenditure components of the ERL could have helped foresee someof these problems. In that case, it might have been possible as well to plan formore realistic planning and for assistance in executing the plans. The recentlyadopted practice of forming country teams in the Country Department --incorporating sector and country Bank staff-- should go a long way towardsinsuring better integration of inputs in the future. A follow-on operation, theDebt Management Program (Loan No. 3149-PH, approved on December 21, 1989) pickedup the same conditionality regarding public expenditures, but with greaterattention to the institutional requirements.

D. Coordination of Cofinancing

7.17 The Japanese Government participated in the international efforts toassist the Aquino Government with a larg aid program. During the last stagesof ERL preparation, the Bank held intensive consultations with Japaneseauthorities. Between EXIM-Bank and OECF the Japanese aid program in 1987 wasexpected to be equivalent to US$1.15 billion, including US$540 million in directcofinancing of the ERL. This important aid package facilitated the execution ofthe program, lending it credibility and liquidity. There were, however, someissues of coordination regarding the mechanisms for disbursements. Under Bankprocedures, disbursements were made pari passu with tranche releases, to financegeneral imports based on a standard negative list, while the proposed EXIMBANKoperation would finance selected government expenditures on projects chosen fromthe Philippine's Public Investment Program. The Bank accepted the differentdisbursement arrangements in a spirit of pragmatism. But such arrangementsinvolve the potential risk of conflicts when the timing of the bilateraldisbursements does not coincide with that of tranche releases, which aredetermined by the execution of prescribed conditionality. Large bilateraldisbursements soon bafore or during a review process leading to a Bank trancherelease might interfeie with the latter process.

E. Social Dimensions of the Adjustment

7.18 At the beginning of the 1980's the Bank had addressed the need fordecisive governmental action to improve social conditions. The dialogue,however, did not progress owing to lack of responsiveness on the Government'spart. During discussions preceding preparation of ERL the new Governmentsignalled to the Bank that its immediate attention had to focus on a resumptionof economic growth. It felt that in the short run that would be the mosteffective way of alleviating the living conditions of the poor, through increasesin employment and incomes growth. The Bank shared this view, and this wasreflected in the President's Report (paras. 22-23). The Bank followed up on

_t C.f., memorandum from Z. Drabek to G. Kaji dated December 21, 1988.

- 22 -

this issue by sending a lar e mission to the country in September, 1987. Themission produced a report,- the recommendations of which have started to bereflected in recent Bank work.

F. Debt Restructuring and Burden Sharing

7.19 During the implementation period of the ERL there was a significantimprovement in the structure of the external debt of the Philippines (cf., AnnexV). While the total stock of outstanding debt increased from US$28.5 billion toUS$30.5 billion in 1986 - 1990, short-term debt and long-term debt to privatecreditors were substantially reduced, as was the net use of IMF credit.Compensating for these reductions, the official debt to bilateral andmultilateral creditors rose fast: bilateral debt more than doubled to reachalmost US$8.9 billion in 1990, and debt to the World Bank rose from US$3.0billion to US$3.9 billion. Debt to the IMF, on the other hand, dropped fromUS$1.3 billion to US$0.9 billion in the same period, and that to commercial banksdropped from US$11.0 billion to US$7.9 billion.L' (Commercial banks acceptedsubstantial capital losses through discounted debt-equity conversions andbuybacks.) The Bank helped the Government obtain the debt relief andrestructuring that led to this improvement.

VIII. OVERALL EVALUATION

8A1 The ERL provided a vehicle to establish a fruitful dialogue of the Bankwith the new Administration. This dialogue helped to create a consensus amongthe members of the incoming Government on the desirability to continue and deepenthe reforms that had been initiated under the deposed regime. Although thespecific results of this operation may have been mixed, and the progress of thestructural change since then may have been uneven, the process of change was notinterrupted, and follow-on operations are still carrying it forward. Interviewsin the field conducted by OED staff confirmed that the Bank's intellectualleadership provided an important influence during the transition period. Hadthis been the only accomplishment of the ERL, it would have been sufficient toconsider the operation a success.

8.2 But in addition to the above, the program financed by this loan helpedto drastically improve the condition of the two largest government-owned banks

(BNP and DBP), to begin a profound process of divestiture, to start therestructuring and rationalization of the tax system, to make some further

Z1 World Bank, The Philippines - The Challenge of Poverty, Report No. 7144-PH,dated October 17, 1988.

271 The CBP has provided OED with somewhat different figures for the debt

outstanding balances just mentioned (cf. Annex VI, page 3, para. h). The

preceding figures are based on the World Bank's official Debt Tables, and the

relatively small differences may be explained by the timing of individual debttransactions.

- 23 -

progress towards trade liberalization and to prevent a worse deterioration of thephysical infrastructure than what has been observed. All these are verypositive results.

IX. LESSONS FOR THE FUTURE

9.1 The experience gained during design and implementation of the ERL, wasgenerally satisfactory. It serves, nevertheless, to provide lessons that can beuseful in future adjustment operations. Most of these lessons confirm findingsof earlier OED evaluations of adjustment loans in different regions.

9.2 The practice of multiple tranching can provide an effective tool toensure fuller compliance with the conditionality and objectives of adjustmentoperations.

Coordination with Other Donors

9.3 In most cases the success of an adjustment program is closely tied tothe macroeconomic framework. The link takes place through the real exchangerate, the mix between fiscal and monetary policy, the choice between revenueenhancement and expenditure reduction to control a fiscal deficit, etc. Whilethe IMF has primary responsibility for theso areas, Bank staff need to ensurethat the structural adiustment program that it supports is fully consistent withthe macroeconomic framework. both in its design and in its implementation, Itmay still be appropriate to repeat here one of the lessons derived from the auditof the first two SALs to the Philippines: "When designing structural adjustmentprograms it may not be sufficient for the Bank to leave matters of centraleconomic and financial management to be covered by the IMF in possible standbyarrangements."

9.4 Coordination of cofinancing activities requires careful planning,making sure that the donors understand the need for the loan conditionality andfully share the conviction that such conditionality is desirable. Rules fordisbursement under various tranching arrangements should be clearly spelled outin advance, and a financing program drawn out early on, to ensure both that theavailable financing is consistent with the reform program and that disbursementdecisions of one donor do not undermine the reform program of another donor.

Internal Bank Organization

9.5 The Bank must make every effort to ensure that the institutionalcapacity to carry out the desired program exists in the Government. This isparticularly relevant when dealing with a young administration. In thisconnection, it can be risky to plan the elimination of a proven tax (even if it

L World Bank, Program Performance Audit Report - Philipoines First and SecondStructural Adjustment Loans (Loans 1903-PH and 2266-PH), OED Report No. 5813,dated July 31, 1985, page v.

- 24 -

is sub-optimal) for a more efficient tax (such as the VAT) before adequatetraining and administrative arrangements are fully in place for administrationof the new tax.

9.6 Close cooperation of Projects or Sector staff in the design andsupervision of adjustment operations can be most valuable, even if the primaryresponsibility rests with Programs or Country Operations. This is particularlyimportant in areas related to public investment and maintenance of the physicalinfrastructure, including assessments of the institutional capabilities.

Borrower Owners*ip and Participation

9.7 In designing Technical Assistance projects it is particularly importantto ensure full involvement and participation of the Borrower, not only at thehiphest levels, but also at the middle levels where the technical assistance willbe delivered. This includes precise formulation of work programs and terms ofreference. Budgetary provisions and staffing arrangements for close andintensive supervision of TALs need be made early on, before Board presentation.Projects and sector staff should normally be closely involved in theseactivities.

-25- ANNEX IPage 1 of 4

LOAN NUMBER 2.lSl PH

Loan Agreement(Economic Recovery Program)

between

REPUBLIC OF THE PHILIPFL:ES

and

INTERNATIONAL BANK FOR RECONSTRUCTIONAND DEVELOPMENT

Dated Mm o , 1987

- 26 -ANNEX I

Page--of 7

SCMEULIC 4

Actions Referred to in Paragraph 3of Schedule I to this Agreement

Part A: Conditions for Release of First Tranche

Action by the Borrower and other concerned entities towardsthe implementation of the following:

1. A plan, satisfactory to the Bank, for restructuring DBP andPNB into more economic and efficient entities including internalreorganization and the strengthening of internal controls,policies, procedures and systems,

2. A plan, satisfactory to the Bank, to reduce the operatingcosts of DBP and PNB including the rationalization of the numbersof their respective branches as well as their respVctive staffstrength.

3. The transfer of title to, or assignment of rights in respectof, designated assets of DBP and PNB to the Borrower or the AssetPrivatization Trust, and of designated liabilities of DBP and PNBto the Borrower or for its account; and the appropriate disposi-tion of non-performing assets of DBP and PNB including thosetransferred to the Borrower or the Asset Privatization Trust.

4. Management, in a manner satisfactory to the Bank, ofdeposits of the Borrower's funds in accordance with the Bor-rower's policies on government deposits (including funds ofcorporations owned directly or indirectly by the Borrower) ingovernment depository banks and the maintenance by such banks ofappropriate liquidity ratios against designated public sectorliabilities at levels satisfactory to the Bank.

5. A public sector investment program with content and levelsatisfactory to the Bank.

6. Implementation of the 1986 tax reform program.

7. Maintenance of the Borrower's operations and maintenanceexpenditures in respect of economic and social sectors at a levelat least equivalent, in real terms, to such expenditures in 1982.

- 27 -ANNEX I

Page 3 of 4

8. Liberalization of trade regulations, including, in parti-cular, quantitative Import restrictions in accordance witnongoing programs for such liberalization.

9. A program of technical assistance including the EconomicRecovery Technical Assistance Project.

Part B: Conditions for Release of Second Tranche

t. Issuance in respect of DBP and PKB, as audited byindependent external auditors satisfactory to the Bank, of abalance sheet audit as of December 31, 1986 and a financial auditincluding income statement for the period July I - December 31,1986.

2. Submission, no later than March 31, 1987, of detailedorganizational, staffing and financial plans, policies andprocedures of the Asset Privatization Trust.

3. Completion of a program of studies to develop proposals forthe further reform of the tariff structure.

4. Completion of studies, and announcement of a progrea for,the further liberalization of quantitative Import restrictions.

5. Submission of a final branch reduction program for PUB byJune 30, 1987.

6. Development and introduction of a system, satisfactory tothe Bank, for monitoring and evaluation of the performance of DBPand PNB, including the establishment of appropriate performancetargets.

7. Implementation of a system to monitor physical and financialaccomplishments of the Borrover's public investment program.

8. Completion of studies, satisfactory to the Bank, for furtherImprovements to the systems applicable to individual andcorporate income taxes, property taxes and fiscal incentives.

9. Attachment of DBP and PNB to the Ministry of Finance.

- 28 -

ANNEX IPage 4 of 4

Part C: Conditions for Release of Third Tranche

1. Issuance of financial audits of DBP, PNB and the AssetPrivatization Trust for the fiscal year 1987, as carried out byindependent external auditors satisfactory to the Bank.

2. Completion of all requ4eaments necessary for the divest-ment of the following banks: Associated Bank; Commercial Bank ofManila; Filipinas Bank; International Corporate Bank; RepublicPlanters Bank; and Union Bank.

3. Implementation of measures, satisfactory to the Bank, forfurther improvements to the systems applicable to individual andcorporate income taxes, property taxes and fiscal incentives,based inter alia on recommendations formulated through studiesundertaken under the Program.

4. Completion of studies undertaken under the Programregarding the following: Government Service Insurance System;Social Security System; Land Bank of the Philippines; andPhilippine Export and Foreign Loan Guarantee Corporation.

5. Implementation of the system for monitoring and evaluationof DBP and PNIB referred to in paragraph 6 of Part B of thisSchedule.

6. Introduction of a value added tax.

7. The public announcement of a program for the further reformof tariffs on Imports.

8. Implementation of a program for the further liberalizationof quantitative import restrictions.

- 29 -

International Bank for Reconstruction and DevelopmentFOR OFFICIAL LSE ONLY

ANNEX IIPage 1 of 7

SecM88-320

FROM: Senior Vice President, Operations March 23, 1988

PHILIPPINES-- Progress of the Economic Recovery Loan*

1. As provided in Section 3.01 of the Loan Agreement for the EconomicRecovery Loan to the Philippines (Loan No. 2787-PH), the Bank's staff havebeen monitoring progress during the past year on the economic recoveryprogram supported by this loan. Supervision missions visited Manila inOctober, 1987 and February, 1988. This memorandum provides a brief updateof the current economic situation, as well as a status report on the reformprogram and fulfillment of the agreed criteria for the release of thesecond tranche.

I. RECENT ECONOMIC DEVELOPMENTS

2. Despite an unsettled political environment, the economy showedsigns of a substantial economic recovery in 1987, in line with the targetsin the program. Economic growth during 1987 is estimated to have been 5.1%(real GDP), with industrial growth of 8%. Major factors leading therecovery have been the increase in fixed investment (up 11% over lastyear), an increase in Government expenditures (up 8%), and increasedexports of electronic items and garments (up by over 20%). Inflation hasbeen kept under control despite the acceleration of growth; the increase inconsumer prices for the year was only 3.7%. The national government budgetdeficit was only about 3.4% of GNP, below the expected level of 3.8%. Thisreflects both slightly better revenue performance and shortfalls in plannedexpenditures, particularly for investment.

*Questions on thisdocument may bereferred toMr. Hicks (ext. 72161)ox Mr. Jarvis (78035)

Distribution:

Executive Directors and AlternatesPresidentSenior Vice PresidentsSenior Management CouncilVice Presidents, IFCDirectors and Department Heads, Bank and IFC

This document has a restricted distribution and may be used by recipients oniy in the partormanceof their oficial duties. Its contents may not otherwise be disclosed without World Bank authorization.

-30- ANNEX IIPage 2 of 7

3. On the balance of payments front, the overall currett account was

in deficit this year by about $386 million (about 1.2% of GNP). While non-

traditional manufactured export earnings have risen by over 30% from last

year, this has been offset somewhat by lower earnings on primary product

exports. As a result, total export earnings have increased by about 18%

while imports have risen by about 28%. The import level is, however, only

slightly higher than originally expected and in line with the higher growth

of the economy. (See explanatory note below).

4. Gross reserves, which reached a peak of $2.5 billion at the end of

1986, declined to $1.8 billion by the end of the year. Since August,

1987, there has been increased pressure on the exchange rate which has

required support by the Central Bank. While the rate has depreciated some-

what since the end of 1986, it is currently somewhat below the parallel

market which ranges from 21.5-22.0. (See explanatory note below).

II. PROGRESS IN THE REFORM PROGRAM

5. The Economic Recovery Program concentrated on four areas of

economic policy: government financial institutions, the restructuring of

public expenditures, tax reform and trade reform.

Government Financial Institutions

6. DBP and PNB. The reform program for the major government financial

institutions (GFIs) has made major progress. The two main banks, DBP and

PNB,1/ have been reorganized, major non-performing accounts have been

removed from their books, and they are beginning to show signs of profit-

able operations. The total staffs of the two institutions have been

reduced from 9170 to 6706. Unprofitable foreign and domestic branches have

either been closed or restructured to a more profitable basis. Audits by

private auditing firms have been initiated for 1986. A major program of

institutional strengthening has been undertaken by both organizations

designed to improve procedures for loan evaluation and collection, as well

as such internal functions as planning and budgeting, personnel management,

legal and accounting services. Financial performance has been within the

performance criteria agreed during negotiations in areas such as capital

adequacy, liquidity, asset quality and earnings performance. As a result

of the restructuring of these banks, their share in total banking system

assets has declined from 39% at the end of 1985 to 12% by the end of 1987.

7. 6=. Non-performing accounts from the two major banks have been

given over to the Asset Privatization Trust (APT) for disposal. For the

year 1987, APT made sales amounting to P3.8 billion (69 accounts),

substantially in excess of the expected target of P2.6 billion for the

year. APT assets have attracted both foreign and domestic buyers, and have

been strictly on a cash basis. For 1988, APT has an optimistic sales

target of P8.7 billion. The future pace of sales may slow down, however,

since many of the remaining accounts present difficult legal problems.

1/ Development Bank of Philippines and Philippine National Bank,

respectively.

Exolanatory Note: The Central Bank of the Philippines has provided OED with

revised figures for these paragraphs. They are reproduced as Annex VI, page 4,

paras. i and J.

- 31 -ANNEX II

Page 3 of 7

8. Monitoring and Attachment. The monitoring of the performance ofthe GFIs has been undertaken by the Inter-Government Financial InstitutionsPolicy Coordinating Committee (IGFIPCC), a group of GFI heads chaired bythe Secretary of Finance and including the Central Bank Governor. TheDepartment of Finance serves as its secretariat. While it was originallyagreed under the Loan Agreement that monitoring would be undertaken by thegroup that monitors public corporations, the setting up of a separate com-mittee is an acceptable alternative. The Committee has met quarterly, andmonitors both the financial performance and institutional restructuring ofDBP and PNB. In addition, it monitors the other GFIs, namely GSIS, SSS,2/Philguarantee and Land Bank, although this was not required under the LoanAgreement.

9. It had been agreed that the attachment of PNB and DBP would beshifted from NEDA to the Department of Finance (DOF). In fact, theattachment of PNB and DBP was shifted to the Office of the President.While this arrangement is not necessarily the most appropriate arrangement,it achieves the overall goal of ensuring adequate oversight by someresponsible unit of the Government. Since additional oversightresponsibility is also being exercised by the DOF through the IGFIPCC, thisarrangement is considered acceptable.

10. GFI Studies. Studies of four other GFIs have been initiated.These studies, which cover Philguarantee, Land Bank, and GSIS/SSS, will becompleted prior to the release of the third tranche and will be partlyfinanced by the Economic Recovery Technical Assistance Loan (Loan 2788-PH).

11. Government Acquired Banks. Of the six acquired banks, full orpartial sales have been made in three cases. Sale of a majority interestin all six banks is a requirement for the third tranche release under theERL; there is no target set for the second tranche. The Government hasalso sold a fourth bank, the PCI Bank, which was owned by DBP but was notincluded in the reform program.

12. Government Deposits. The Central Bank's policy on governmentdeposits remains in force; depository banks are required to keep a 75%liquidity cover against public sector deposits, in the form of cash orgovernment securities. The Government has liberalized the restriction

placing all government deposits in government banks by permitting fourprivate commercial banks also to act as public depositories.

13. Technical Assistance. At the time of appraisal, it was felt that

the reform program for PNB and DBP would necessitate outside technical

assistance. In addition, certain technical assistance needs in the

Ministry of Finance and Central Bank were also identified. A $10 million

technical assistance loan (Economic Recovery Technical Assistance ProjectLoan No. 2788-PH) was signed with the Government to help finance these

needs, and to finance studies of four smaller GFIs, mentioned in para. 10,above. In fact, the reform programs for the two banks have beensuccessfully carried out without outside technical help, largely by relying

/ Government Service Insurance System and Social Security System,respectively.

- 32 -ANNEX II

Page 4 of 7

on locally recruited new st.-ff, and by reorganization and betterutilization of existing sta..f. The envisioned reform programs for theMinistry of Finance and Central Bank have not yet been started, as theGovernment is seeking to finance these needs with grant funds frombilateral donors. At the Government's request, million of Loan 2788-PHhas been cancelled.

Public Expendit~ures

14. Maintenance and operating expenditures (MOE) have been increasedsignificantly this year. The projected level for 1987 is P 24.1 billion,which represents a real increase of 54% over 1986. Under the EconomicRecovery Program, the Government is committed to raising the real level ofMOE in the economic and social sectors to the real level of 1982. Atpresent expenditures rates, the level would equal 97.4% of the target,which is acceptable.

15. While the composition of the public investment program issatisfactory, its level has not been increased as planned. Compared to theERL target of 5% of GNP, expenditures during 1987 actually reached a levelof only 3.3%, about a 9% real increase over the previous year. Part ofthis is explained by a lag between work accomplished and cash disbursement,changes in the administration of key agencies, and Commission on Audit(COA) requirements for the preauditing of expenditures. Steps have beentaken to accelerate expenditures during the second half of the year. AProject Facilitation Committee at the undersecretary level has beenestablished to improve project implementation and to accelerate theidentification of new projects. The Undersecretary of the Department ofPublic Works and Highways has been designated as Presidential Adviser onProject Development and Implementation. As a result of these initiatives,the amount of preauditing by COA has been reduced, and additional resourcesmade available to fund pre-investment activities. A recent report of theProject Facilitation Committee was received and reviewed by the Bank'sstaff, and it is our opinion that the necessary corrective steps have beentaken which will raise the rate in 1988. Overall monitoring of the publicinvestment program continues to rest with NEDA, which provides quarterlyreports to the Cabinet, and to the Bank, on program implementation.

Tax Reform

16. Progress in tax reform has been good. The value-added tax wasintroduced on January 1 of this year, ten months earlier than called forunder the ERL program. The VAT could add as much as P1.5-3.0 billion tototal tax revenue. The only part of the tax reform program that has notbeen carried out is the amalgamation of the special funds, including thegambling tax, into the general fund. Most tax exemptions for publiccorporations have been removed, although tax exemptions have been restoredto the National Power Corporation (NPC) and the electric cooperatives inorder to hold down the level of power rates.

17. The ERL program calls, as a condition of the second tranche, forthe undertaking of five studies related to possible further tax reforms,with implementation of the recommendations as a condition for release of

- 33 -ANNEX II

Page 5 of 7

the third tranche. Studies have not been completed with respect to theinclusion of interest income in the globalized income tax, and thepossibility of an inflation adjustment for depreciation. On the firstitem, a study of the globalization of interest income had already beenundertaken in 1986. The Government feels that because of its weakenforcement position, it is not practical to undertake this step at thistime. With regard to the inflation adjustment for depreciation, theGovernment argues that it is no longer necessary since accelerateddepreciat--'on has just been introduced. In addition, the introduction of aninflation adjustment could erode tax revenues since it would permitdepreciation greater than purchase prices. The Government has initiatedseveral tax reforms, some of which had not been identified as part of theERL program. Reforms undertaken so far include the imposition of ceilingson business deductions, a revised BOI investment incentive code, andimprovements in tax administration and compliance. In our view, theoverall thrust of the tax reform program is in compliance with the -

expectations of the ERL program.

Trade Reforms

18. The trade liberalization program is on schedule. The program callsfor the removal of import controls on 299 import items between June 1987and April 1988.1./ As required, the Government liberalized 72 restrictedimport items (mostly textile fibers) at the end of October and 63 items atthe end of December, 1987. In fact, some items (mostly paper andpaperboard products) were decontroled ahead of schedule. A program for thedecontrol of another group of 673 items still controlled has been agreed,as reouired for the release of the second tranche. Of this group, a totalof 104 items will be liberalized by the end of 1989; for an additional 455items, the Government will announce plans for liberalization before therelease of the third tranche.

19. Some upward tariff adjustments have been made on liberalized items,thus replacing quantitative controls with tariff protection. Theseincreases are reasonable, and within the agreed ceiling for tariffs of 50%.In many cases, this proposed program would introduce temporary tariffincreases including time-bound provisions for reductions back to existinglevels. It also includes shifting some tariffs from an ad valorem to aspecific basis, in an effort to discourage undervaluation of imports.

20. It was envisaged under the ERL that the Government would, by thetime of the release of the second tranche, complete studies that couldlater lead to an overall reduction in tariff levels. While these studieshave begun, they will not be completed until sometime next year. It is theGovernment's view that further tariff reductions at this time would under-mine the trade liberalization program, and lead to pressures to reimposequantitative restrictions. It is the staff's view that a delay in theannouncement of the new tariff program until sometime in 1988 is warrantedprovided the program for liberalization of quantitative restrictionsremains on track, including progress on the remaining 673 items.

3./ It is estimated that these cover about 4% of total imports.

- 34 -ANNEX II

Page 6 of 7

III. PROGRESS AGAINST TRANCHE RELEASE CRITERIA

21. The following specific criteria for tranche release are listed inSchedule 4 of the Loan Agreement:

(a) implementation of a plan for institutional strengtheningand reorganization of PNB and DBP;

(b) a program of cost reduction for PNZ and DBP, involvingthe rationalization of branches and staff reductions;

(c) transfer of designated non-performing accounts andliabilities of PNB and DBP to the National Government;

(d) due compliance with the Government's policy on publicsector deposits and maintenance of appropriate liquidityratios by government depository banks;

(e) the maintenance of a public sector investment programwith content and at levels satisfactory to the Bank;

(f) the implementation of the Government's 1986 tax reformprogram;

(g) raising Government maintenance and operationsexpenditures up to their 1982 real levels for theeconomic and social sectors;

(h) carrying out the agreed program of trade liberalization;

(i) implementation of the technical assistance program underthe Economic Recovery Technical Assistance Project;

(j) issuance of aucits of DBP and PNB for 1986 undertaken byindependent external auditors;

(k) submission of detailed organizational, staffing andfinancial plans for the Asset Privatization Trust;

(1) completion of studies for the further reform of thetariff structure;

(m) completion of studies and announcement of a program for afurthe- liberalization of quantitative importrestrictions;

(n) submission of a final branch reduction program for PNB byJune 30, 1987;

(o) introduction of a system for the monitoring andevaluation of PNB and DBP;

- 35 -ANNEX II

Page 7 of 7

(p) implementation of a system to monitor the publicinvestment program;

(q) completion of studies for the further improvement of thetax system; and

(r) attachment of PNB and DBP to the Department of Finance.

22. The Government's actions, as described above, have substantiallycomplied with these criteria, with the following exceptions:

- the level of public investment was below the ERL target;- the audit of PNB for 1986 has been initiated, but not yetissued;

- the tariff reform studies have been started, but notconcluded; and

- the technical assistance program under the Economic RecoveryTechnical Assistance Project has not been fully implemented.

It should also be noted, however, that the Government has exceeded thelimits set by the program in many important areas, specifically:

- the staff reductions undertaken by PNB and DBP have exceededinitial targets;

- private banks have been made eligible to receive governmentdeposits;

- the asset sales of the APT have exceeded our initialestimates; and

- the trade liberalization program has been advanced over theagreed schedule.

III. CONCLUSION

23. Overall progress on the program of reforms supported by this loanhas been good. Minor shortfalls have been more than offset by better thanexpected compliance in other areas, and general adherence to the importantaspects of the program. Criteria for disbursement of the second tranchewere substantially met (except as noted in para. 22, above). TheGovernment of the Philippines has therefore been advised of theavailability of the second tranche of $100 million under this loan.

Moeen A. Qureshi

- 36 -

Internationai 3ank for Reconstruction and Deveicoment0R OFFICIAL LSE ONL'

ANNEX IIIPage 1 of 6

SecM89- 1607

FROM: Senior Vice President, Operations December 22, 1989

PHILIPPINES--Release of the Third Tranche of the Economic Recovery Loan*

1. As provided in Section 3.01.of the Loan Agreement for the EconomicRecovery Loan to the Philippines (Loan No. 2787 - PH), the Bank's staff havemonitored progress on the economic recovery program supported by this loan.Supervision missions visited Manila in November 1988, June 1989 and July 1989.An IMF mission in October-November 1989 also reviewed and discussed with theGovernment the macroeconomic developments. This memorandum summarizes theprogress achieved under the program during 1988-89 and towards the fulfillmentof the criteria agreed for the release of the third tranche.

I. Recent Economic Developments

2. The performance of the economy in 1988-89 has been satisfactory. RealGDP growth was 6.4 per cent in 1988, and is estimated at approximately 6 percent in 1989. Total investment has increased slowly both in 1988 and 1989.reflecting the gradual absoiton of excess capacity, and it is expected toamount to approximately 20 per cent of GNP in 1989. Inflation was below 10per cent in 1988, but rose in latter part of 1989. due to one-time events suchas the minimum wage rise, and is expected to be approximately 13 per cent forthe year as a whole. These events have negatively affected the public sectorperformance in 1989 and, in spite of a substantial rise in tax revenues, theconsolidated public sector deficit is estimated to be at 4.4 per cent of GNP.The Government has initiated remedial action, including the announcedpetroleum price increase and legislative measures to raise tax revenues.

Distribution

Executive Directors and AlternatesPresident *Questions on thisSenior Vice Presidents document may be referredSenior Management Council to Ms. D. GressaniVice Presidents, IFC (Extention 73539)Directors and Department Heads, Bank and IFC

.,cum:nt :ut a '!nc:Jo J:rtriution anu rnj ne usea o% recipients only in ine performanceA ::n: :. : Juties. its cuntnts may not otherwise be disclosed without World Bank authorization.

- 37 -ANNEX III

Page 2 of 6

3. Regar6ing the balance of payments, the current account was in deficit in1988 and 1989. This reflected strong increases in capital goods imports thatwere required to sustain the recovery of investment. The performance ofexports, though outpaced by the growth of imports, has been encouraging, withmanufactured exports estimated to have grown 17 per cent in volume terms in1989. Capital inflows, in particular direct foreign investment, haveincreased significantly in both yeais. The exchange rate has been kept inline with the parallel market rate.

4. The Government has recently reviewed with the IMF its medium-termmacroeconomic program for 1990-92, which is supported by a three-year ExtendedArrangement. The objective of the program remains the restoration of realgrowth at 6.5 per cent per year, single-digit inflation and the strengtheningof the external payments position. The benchmarks agreed under the IMFExtended Arrangements include a ceiling on base money expansion and the publicsector borrowing requirements, a floor on net international reserves, andtargets for tax revenues Rnd public sector capital expenditure.

5. The Government presented its longer-term development strategy at therecent Consultative Group meeting in July 1989, where it received broadsupport. The Government has also made progress in defining and implementingits debt management strategy. An agreement with the Paris Club, involvingrescheduling of principal and interest, was reached in May 1989, and anagreement, involving debt repricing, debt buy-backs and new lending, wasreached with commercial creditors in October 1989.

II. Program Implementation

6. The Economic Recovery Loan (ERL) for $300 million became effective inJune 1987. The first tranche was released upon effectiveness; the secondtranche was released in March 1988, as notified to the Board on March 23,1988. The Economic Recovery Program supporting the loan concentrated on fourareas of economic policy: government financial institutions, publicexpenditures, tax reform and trade reform.


7. The reform program of the two major banks, Development Bank of thePhilippines (DBP) and Philippine National Bank (PNB), has substantially beencompleted as agreed with the Bank. Institutional strengthening andimprovement of internal procedures, branch restructuring and staff reduction,transfer of major non-performing accounts to the Asset Privatization Trust(APT) and the disposition of P 4.9 billion of such assets had beenaccomplished in 1987. In 1988-89, further progress has been made. Financialaudits by external auditors were performed on DBP and PNB for 1987, and theCommission on Audit (COA) has completed auditing of DBP for 1988. Though notrequired under the agreed program, reform of PNB advanced further with thepartial privatization of 30 per cent of PNB's total capital, accomplished inMay 1989 with the successful public issue of shares. Disposition of theremaining non-performing accounts of PNB and DBP by APT has continued, andapproximately P 1.3 billion have been disposed in 1988. APT has also been

- 38 -

ANNEX IIIPage 3 of 6

audited for 1987, though by COA rather than by an external auditor as requiredby the Loan Agreement.

8. The monitoring of DBP and PNB continues to be carried out by the Inter-Government Financial Institutions Policy Coordinating Committee (IGFIPCC),which was established under the program, and the two banks continue to beattached to the Office of the President. These arrangements are satisfactoryto the Bank, in view of ensuring adequate supervision and responsibility bythe Department of Finance, whose Secretary chairs IGFIPCC.

9. The divestment of six Government banks targeted for privatization underthe Economic Recovery Loan has progressed substantially but has not beencompleted. Two banks (Commercial Bank of Manila and Filipinas Bank) have beenfully transferred to the private sector: two banks (International CorporateBank and Union Bank) have been partially transferred to the private sector,for 40 per cent of their equity. Further privatization of these banks andprivatization of Associated Bank are delayed by litigation initiated byprevious owners; the sixth bank. Republic Planters Bank, has not yet completedthe rehabilitation process necessary prior to privatilzation.

10. The management of Government deposits continues to be in accordance withCentral Bank regulations, including the maintenance f a 75 per cent liquidityratio in cash and Government securities against public sector deposits, asagreed with the Bank. The Government has, however, restricted the function ofGovernment depository bank to PNB in mid-1989, reversing the initialliberalization that in 1988 had allowed also four private banks to act aspublic depositories.

11. The four studies of Government financial institutions (GovernmentService Insurance System, Social Security System, Land Bank of thePhilippines, Philippine Export and Foreign Loan Guarantee Corporation) to becarried out under the ERL have been completed, and their findings are beingreviewed by our staff.

12' At time of appraisal it was felt that the Economic Recovery Programwould require outside technical assistance, in particular with regard to thereform of Government financial institutions. The Economic Recovery TechnicalAssistance Project Loan (Loan No. 2788-PH) of $10 million was signed for thispurpose. While the Government subsequently chose to resort to locallyrecruited staff and to use grant funds from bilateral donors for thesepurposes, the goals of the Technical Assistance Project were largely achieved,as evidenced by the successful reforms referred to above. At the Governmentrequest, approximately $9 million of the Technical Assistance loan has beencancelled.

Public Expenditure

13. Operations and Maintenance expenditure of the national government ineconomic and social sectors was substantially increased in 1987, to reachapproximately 88 per cent of the target agreed with the Bank (the 1982 levelof Operations and Maintenance expenditures in real terms), and has been

- 39 -ANNEX III

Page 4 of 6

maintained at a satisfactory level in 1988. The projected figures for 1989imply an expenditure level in excess of the agreed benchmark.

14. Regarding the performance of the public investment program, while thecomposition of the program remains satisfactory, its level has fallen short ofthe target of 5 per cent of GNP. The consolidated public sector investmentexpenditure is however estimated to have increased substantially in 1989, from3.2 to 4 per cent of GNP.

Tax Reform

15. The 1986 tax reform program had been largely implemented and the valueadded tax had been introduced prior to second tranche release, ahead oforiginal plans. Further progress has been accomplished in 1989 with thebroadening of the coverage of the value added tax to include sugar refiningand trading.

16. The Government has made substantial progress in 1989 on the taxcollection front. Improved tax administration contributed substantially tothe large rise in tax receipts (estimated to have increased from 11 to 12.8per cent of GNP in 1989), which resulted mostly from income tax, import taxand value added tax revenues. The Government also intends to acceleratecomputerization and personnel hiring and training for value added taxadministration, which should further strengthen collection.

17. The studies of direct taxation and fiscal incentives carried out underthe program did not recommend further reforms in these areas. Nevertheless,the Government introduced in 1989 regulations broadening the withholding taxsystem to include incomes from partnership shares and some professional feesunder the IMF Extended Agreement. Further measures aiming in particular attightening rules governing tax credit and tax deferral are to be introduced in1990.

Trade Reform

18. The original program of trade liberalization was successfullyimplemented and the liberalization of agreed items was completed by April 30,1988. Further liberalization as agreed prior to second tranche release wasundertaken in December 1988, .when restrictions .were lifted for 94 of the 104items that had been originally agreed. The Government subsequently undertookreviews of the remaining items whose liberalization was to be evaluated underhe program, with the goal of continuing to shift towards a system of tariff-ased protection. A program for further liberalization was agree' under theMF Extended Arrangements, aiming at eliminating most non-tariff restrictionsy end-1994. As envisaged by this program, restrictions covering 90 itemsere lifted in July and September 1989. The Government has also introducedegislation to rationalize import tariffs, and is preparing a bill that willeduce some import tariffs on capital goods.

II. Progress Against Tranche Release Criteria

- 40 -ANNEX III

Page 5 of 6

19. The following specific criteria for tranche release are listed inSchedule 4 of the Loan Agreement:

a) implementation of a plan for institutional strengthening andrationalization of PNB and DBP;

b) implementation of a program to reduce operating costs of PNBand DBP, involving rationalization of branch networks and staffreductions;

c) transfer of designated assets and liabilities of PNB and DBP tothe Government;

d) due compliance with the Government policy on public sectordeposits and maintenance of appropriate liquidity ratios byGovernment depository banks;

e) implementation of a public sector investment program withcontent and level satisfactory to the Bank;

f) implementation of the 1986 tax reform program;

g) increase of the Government's Operations and Maintenanceexpenditures, in the economic and social sectors, to a level atleast equivalent to the 1982 real level;

h) implementation of the agreed program of trade liberalization;

i) implementation of the program of technical assistance under theEconomic Recovery Technical Assistance Project;

j) introduction of a system for monitoring and evaluation of PNBand DBP;

k) issuance of financial audits of DBP, PNB and APT for the fiscalyear 1987, undertaken by external auditors;

1) divestment of six Government banks (Associated Bank, CommercialBank of Manila, Filipinas Bank, International Corporate Bank,Republic Planters Bank, Union Bank);

m) further improvements to individual and corporate income taxsystem, property taxes and fiscal incentives;

n) completion of studies regarding: Philippine Export and ForeignLoan Guarantee Corporation, Government Service Insurance Systemand Social Security System, Land Bank of the Philippines;

n) introduction of a value added tax;

m) public announcement of a progrant for further reform of tariffson imports;

- 41 -ANNEX III

Page 6 of 6

o) implementation of a program for further liberalization ofquantitative import restrictions.

20. The Government actions, as described above, have substantially compliedwith these criteria, with the exceptions:

- the level of public investment was below the agreed target;- the audit of APT for 1987 was conducted by COA rather than by anexternal auditor;- the Economic Recovery Technical Assistance Project has not beenimplemented.

21. It should be noted, however, that the Government has largely achievedthe goals of the Economic Recovery Technical Assistance Project, and hasproceeded further than agreed with the reform of PNB, with its partialprivatization.

IV. Conclusion

22. Overall progress on the program of reforms supported by this loan hasbeen satisfactory. With the exceptions mentioned in paragraph 19, theGovernment has complied with the agreements, and criteria for disbursement ofthe third tranche have been substantially met. The Government of thePhilippines has, therefore, been advised of the availability of the thirdtranche of $100 million under this loan.

Hoeen A. Qureshi

- 42 -

ANNEX IV

KEY MACROECONOMIC INDICATORS, 1980-90

1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990

Real Growth Rates:Gross Domestic Product 5.1% 3.4% 3.6% 1.9% -7.3% *7.3% 3.4% 4.8% 6.3% 6.1% 2.4%

Gross Domestic Income 4.6% 3.2% 2.8% 1.4% -8.7% -7.1% 4.2% 5.1% 7.2% 5.7% 3.9%

Real per Capita Growth Rates:Gross Domestic Product 2.4% 0.9% 1.1% -0.6% -9.6% -9.5% 1.0% 2.3% 3.8% 3.6% 0.1

Total Consumption 1/ 1.7% -0.5% 1.4% -2.4% -3.4% -3.5% 0.6% 1.6% 4.0% 2.7% 3.4

Private Consumptioi 1.7% 0.1% 0.9% -1.9% -2.2% -3.5% 0.9% 1.6% 3.8% 2.6% 3.0.

Debt and Debt Service:Total D0D/GDP 53.7% 58.7% 65.9% 73.6% 77.6% 88.2% 95.5% 89.4% 76.1% 66.8% 68.

Debt Service/Exports 27.1% 34.3% 43.7% 37.2% 33.7% 32.2% 35.2% 38.9% 33.1% 26.1% 21.

Debt Service/GDP 6.7% 8.3% 9.4% 9.1% 8.6% 8.3% 10.2% 10.7% 9.3% 7.6% 6.

Interest/Exports 18.6% 25.4% 30.7% 25.0% 24.1% 22.2% 18.8% 19.7% 18.7% 17.3% 13.

Interest/GDP 4.6% 6.1% 6.6% 6.1% 6.2% 5.8% 5.4% 5.4% 5.2% 5.0% 3.x.

Ratios to GDP:Gross Investment 29.1% 27.5% 27.9% 29.6% 21.8% 15.3% 16.0% 18.0% 18.4% 21.8% 22.5

Domestic Savings 24.2% 24.1% 22.1% 23.1% 20.9% 17.4% 19.5% 18.4% 19.8% 20.1% 16.7

Current Account Balance -5.9% -5.8% -8.6% -8.3% -3.6% -0.3% 3.2% -1.3% -1.0% -3.4% -6.1

GOP Deflator (% growth rate) 14.3% 11.7% 8.7% 14.2% 53.3% 17.6% 3.0% 7.4% 10.2% 8.7% 13.4%

Real Exchange Rate Index 112.9 113.3 117.6 97.2 92.8 100.0 79.9 75.1 73.9 77.9 75.1

Terms of Trade Index (*) 87.7 77.3 81.5 80.7 79.7 100.0 114.7 117.3 128.1 119.4 111.2

Exports CGNFS) Growth Rate 39.8% 6.4% -8.0% 4.5% 3.8% -16.6% 17.1% 6.5% 14.7% 10.7% 1.

Exports (GNFS)/GDP 23.6% 23.8% 20.3% 21.6% 24.2% 24.0% 26.3% 26.6% 28.2% 28.5% 27.

Imports (GNFS) Growth Rate 19.6% -0.8% 2.4% -3.1% -17.5% -14.2% 10.2% 28.6% 19.6% 15.2% 10.

Imports (GNFS)/GDP 28.5% 27.2% 26.1% 28.1% 25.1% 21.9% 22.4% 26.1% 26.8% 30.3% 33.4

Memo:Current Account (US$ mt) -1904 -2061 -3200 -2750 -1116 -103 954 -444 -390 -1456 -2695

Exchange Rate CP/USS) 7.5 7.9 8.5 11.1 16.7 18.6 20.4 20.6 21.1 21.7 24.3

GDP (US$ mit) 32413 35600 37097 33161 31368 30549 29877 33320 38088 42595 44227

Population (mi) 48.32 49.54 50.78 52.06 53.35 54.67 56.00 57.36 58.72 60.10 61.48.................................................------------------------------- ********------------**-*---*-Sources: National Statistic Coordination Board, The National Income Accounts of the Philippines, base year 1985,

February 1992.Central Bank of the Philippines, Selected Philippine Economic Indicators, 1990 and updates.

World Bank, World Debt Tables, 1991-92.1/ Excluding statistical discrepancy.

C*) The Central Bank of the Philippines has indicated that this series has been revised. See Annex VI.

Note: This Table is based on a revised set of National Income Accounts releasedby the Philippine National Statistic Cocrdination Bureau in February 1992.

PBILIPPINES - DEBT OUTSTANDING AND DISBURSED(Year-end Stocks, US$ millions)

1970 1980 1983 1984 1985 1986 1987 1988 1989 1990

Long-Term Debt 1,544 8,817 13,692 14,010 16,620 21,872 24,747 24,015 23,339 25,113

Public sad publicly 625 6,363 10,567 11,299 14,020 19,578 23,231 23,023 22,597 24,108guaranteed

Official creditors 272 2,636 4,816 5,386 6,966 8,468 10,991 11,708 12,493 15,133

Multilateral 120 1,310 2,833 2,827 3,478 4,187 5,009 4,771 4,981 6,274

Concessional 75 279 560 638 682 733 778 824 875 1,282

IDA 0 34 61 71 84 92 99 102 102 101

Nonconcessional 46 1,031 2,273 2,189 2,797 3,455 4,230 3,948 4,106 4,992

IBRD 119 926 2,047 1,865 2,420 3,017 3,747 3,408 3,492 3,943

Bilateral 152 1,326 1,983 2,559 3,487 4,280 5,983 6,937 7,512 8,859

Concessional 68 894 1,303 1,374 1,900 2,551 3,810 4,580 4,776 5,818

Private creditors 353 3,727 5,751 5,913 7,055 11,110 12,240 11,314 10,104 8,974

Bonds 11 888 932 843 839 886 850 610 410 918

Comercial banks 267 2,256 3,959 4,021 4,852 8,744 9,689 9,007 8,428 6,917

Other private 75 583. 859 1,049 1,364 1,480 1,701 1,698 1,266 1,139

Private nanguaranteed 919 2,454 3,125 2,711 2,600 2,294 1,516 992 743 1,006

ewmo: total commercial 1,186 4,711 7,084 6,732 7,452 11,038 11,205 9,999 9,170 7,922banks

eo: not use of 1F 69 1,044 1,095 885 1,168 1,266 1,260 1,093 1,177 912credit

Nees short-term debt N/A 7,556 9,608 9,460 9,157 5,382 3,796 3,864 3,952 4,431

Sources World Bank, World Debt Tables 1991-92. M

- 44 -

ANNEX ViPage 1 of 4

..*jul, gEaI-:~ FRO~M ODG-RS 5å13e. v&q &våååýe A .001

49 (CCNTRAL $ANK OF TME P~LIPPINC-S)aøVNILN Pi.IPINAS

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Artnticn : Mr. Mark Baird Sender oMr. Amando TetaneoDrvistin Chief, Country Pollcy,Industry & yInance Operations Dept. ManagIng Director

Cap.any i The World Bank ; seareb Sector

o. of Pogøsd Cv four (4)

M.avs : 1818 8. St., N. W. Date,•: 19 June 1992Washingten, D.C. 20433

U.S.A.

Dear Mr. Baird:& 4.... maLw , VUs urA. rrogram reriormance AuG:t Leport (rA)

on the Philippine Ecouomc Recovery Program (EP) and Economic RecoveryTechntcal åssltance Project (ERTAP) daced Ilay 29, 1992, ve generallyconcur with the overall evaluation of the report, except for the attachedconuents/updates.

Very truly yours,

MANg .ITANGC,JR.ManagIng DIrector

- 45 -ANNEX VI

Page 2 of 4

ContLCorrions.L"ARRunami R cvwy Prugram. oan.=d

EuanmilRecov.akTeicalAaainane Proj ec.t

1. With regards to the statement on p. 18, paragraph 7-10,

last sentence, we would only partly agree with the observationthat a more aggreasive and consistent export-oriented exchangerate policy is needed to bring about a sustained economictransformation. In the case of the Philippines. while thenominal exchange rate depreciated substantially for the past teneW%^&W uw . WayLL waywelea i, Lnie poiicy lia not

ensure sustained economic growth. Because of the transmissioneffect of exchange rate adjustments to price levels, and on toexternal competitiveness,. the. exchange rate in real termsappreciated due to higher inflation thus negating the impact of

the initial exchange rate adjustment. The country'c externaloompetitiveness was likewise dampened by unfavorabledevelopments in other areas such as the country's low labor

productivity, high domestic interest rate and poor capacity to

export. Thus, while aggressive export-oriented exchange rate is

necessary for a sustained economic transformation, this,'however,

should be categorically supported by appropriate policies in

other areas of the aeonomy.

2. To facilitate reference of the accompliehments of a

MYaQiEU95Tflrminath it in itefntrd that the PPA? Should hITMoa oomparative summary of the planned and actual results of the

program/project being evaluated, which could be in matrix form.

This may be included as another annex or a combination of

existing annexes in the report.

3. With regard' to the data/information used in the

report, we have reflected corrections/update on the monetary

section of the report for the Bank's future roference.

a. page 7, paragraph 4.7, item (ii) on Trade Reform:

Additional elimination of import restrictions on 1229 items

(instead of 1232), representing about 17 percent (not. 14 as

indicated) of the value of imports for 1988 and ... 1000

even.

The 1229 items referred to above excludes the 3 items

on augar under high tariff items, namely centrifugal,in buFly1986.r rAw. 'n"d fri w"

on per agrCeemet wirp Cin JuIv. 1986.

- 46 -

ANNEX VIPage 3 of 4

b. pago 12. Table 1: Key Manroeconomic Indicators.The line for official loan disburuensento should be revisedto: 716 (1985), 912 (1986), 998 (1987), 938 (1988), 1324

c. page 13, 2nd paragraph, item 6.4. 11th line,"absorbing close to 6 percent... (instead of 5 peroent)....equivalent to about one third (instead of one fourth) ofexport earnings.

d. page 17, second paragraph, item 7.8, line 6: insert"including commernial bank8" after "...Private enterprises".

e. page 18., paragraph 7.10, 4th sentence: During...there wan a 20 (inotead of 25 percent) ... and 1988.

f. page 18, paragraph 7.10. 6th sentence: Duringthe peso ... by about 7 (instead of 8 percent)

g. page 19, oorrectione to Table 6 on real effectivoexchange rates

1986 1987 1988 1989 1990 1991

Against MajorTrafinu fnrtnrrm 71 T n TM 7T M

Against MajorCompetitore 99 114 117 124 121 122

h. page 22, paragraph 7.19; While ... debt increased

from Ui283 billion (instead of $28.5 billion) ... to

US$2B:.5 billion (instead of $30.5 billion)... credit.

Compensating... to reach almost US$8.5 billion (instead of.$8.9 billion) in 1990, and debt to the World Bank rose fromUS=.3 bi.Lnn (instead of US$3.0 billion) to UJS$.1 billLnm(instead of US$3.9 billion). Debt to the IMF dropped ... toUS$1.0 billion (instead of $0.9 billion)... and that to

commercial banks and other finnial institutions droppedfrom ZA$16.2 biIn (instead of USS11.0 billion) to US$1.&

billion (instead of US$7.9 billion).

- 47.-

ANNEX VIPage 4 of 4

i. pago 30,. item 3: On the bala-n ... in deficit byabout SAAA million (Irstead of $3O million) about 1Apercent (instead of 1.2 percent) of GNP. Whil, non-traditional ... have rHen by &A percent (instead of 30percent) ... this has been offset somewhat by ngativeearts (rather than lower earnings) on primary products.As a result, total export earnings have increased by aboutL.Z percent (instead of 19 percent), while imports haverisen by about iM.Ag (nntead of 28%).

J. page 30, item 4: Gross reserves, ... declined toS"D billion (instead of $1.8 billion)... of the year...While the rate ... which ranges from P20,43-P22.91 (insteadof 21.5-22.0).

j. page 42, Annex IV: Terms of trade index: 1980(from 87.7 to 83.8), 1981 (from 77.3 to 87.7); 1982(from

0201. I_ o .0), 1000 (%,w-D . o oQ .- t), Liba-(f&avus Tz.T WV

85.4); 1986 (from 114.7 to 107.9); 1987 (from 117.3 to118.2); 1988 (from 128.1 to 131.2); 1989 (from 119.4 to121.5); 1990 (from 111.2 to 109.5)

Memo: Current account - 1990 (from -2688 to - 2895)Exchange rate - 1982 (from 8.6 to 8.5); 1985

from 18.7 to 18.6)

PROJECTED AND ACTUAL RECOVERY PATTERNS

1986 1987 1988 1989 1990Actual Projected Actual Projected Actual Projected Actual Projected ActualAnnual Growth Rates (%)

GDP Growth 3.4 5.0 4.8 4.5 6.3 4.9 6.1 5.3 2.4Total Consumption 0.6 2.0 1.6 4.0 3.0 2.7 4.5 3.4Exports GNFS 17.1 2.6 6.5 3.4 14.7 5.6 10.7 5.8 1.3Imports GNFS 102 14.5 28.6 5.9 19.6 6.9 15.2 7.1 10.0Terms of Trade Index

(1985 100) 107.9 102.3 118.2 102.6 11.2 102.4 121.5 104.1 109.5 OSources: Projected: ERL President's Report, Annex I, page 1.Actual: Annex IV.

- 49 -


PHILIPPINES

ECONOMIC RECOVERY PROGRAM

(LOANS 2787-PH 2788-PH)

June 26, 1991

Country Operations DivisionCountry Department IIAsia Regional Office

- 51 -

PHILIPPINES

ECONOMIC RECOVERY PROGRAM (LOANS 2787-PH & 2788-PH)


PART I: Project Review from the Bank's Perspective

1 Project Identity

Project Name: Economic Recovery Program. EconomicRecovery Loan and Economic RecoveryTechnical Assistance Project

Loan Number: 2787-PH & 2788-PHRVP Unit: Asia

Country: Philippines

Loan Amount: USS310 million

Board Approval: March 17, 1987

Signature: March 30, 1987

Effective Date: June 4, 1987

Closing Date: December 31, 1989

2 Background

2.1 While economic growth was rapid during the 1970s, distortions in the

structure of incentives produced inefficient patterns of investment, slow growthin employment and low levels of domestic savings. The economy was heavilydependent on imports and foreign capital, and did not adjust well to the severe

external shocks of the post-1979 period -- high oil prices, high interest rates,and declining export prices. While sohia adjustments undertaken during the early1980s were effective, the economy experienced declining growth rates, adeteriorating balance of payments, and the accumulation of a large external debt.A domestic political crisis in 1983, combined with a worldwide debt crisis, led

to a cessation of foreign credits and forced the Government to embark on a majorstabilization effort.

2.2 To deal with the economic crisis, the Government undertook a stabilizationprogram supported by the IMF Standby Arrangement of December 1984. Under thestabilization effort, fundamental economic reforms were introduced in order torestructure imbalances in the incentive regime and institutional framework.External debt service obligations to private banks and official I.biiateralcreditors were rescheduled. The peso was allowed to float and exchange controls,introduced in *he 1983 crisis period, were eliminated. Monetary ?rowth was

brought under control, and the budget deficit was reduced in size. Importantstructural reforms were initiated in the agricultural sector, designed to improveaccountability auid marketing efficiency. Price controls on many basic

commodities, including rice, were dropped.

2.3 While these stabilization efforts succeeded in bringing inflation undercontrol, improving' the external payments situation and obtaining a sizeablereduction of foreign debt service, fundamental structural problems in trade,finance and other areas remained untouched. A deep recession occurred in 1984-

- 52 -

85, leaving GNP per capita about 25 percent lower in 1986 than in 1980. At thesame time, the level of public expenditure was reduced by slashing publicinvestment, while current expenditures increased steadily and, among them,budgetary support of Government financial and non-financial corporations soared

to almost 4 percent of GNP per year during 1984-86.

3 The Program for Economic Recovery

3.1 Since the change in Government in February 1986, a high priority has beenplaced on economic recovery. The overall approach of the Government, ascontained in the Medium-Term Development Plan, emphasized three key principles:(a) greater attention to poverty alleviation and social justice; (b) accelerationof growth and increased economic efficiency; and (c) reduced Governmentinvolvement in the economy and an emphasis on private initiative.

3.2 The Government formulated a program for economic recovery whose main goalsincluded:

a. Macroeconomic Policy: reduction of fiscal imbalances by increasing

revenue mobilization; continuation of tight monetary policy;maintenance of a competitive exchange rate;

b. Financial Sector: financial and organizational restructuring ofGovernment financial institutions (GFIs) and further reform of the

sector, in order to provide adequate financial resources for therecovery;

c. Public Sector: improvement of structure and enforcement of taxsystem; increase in investment and in operations and maintenance(O&M) expenditures; reform and privatization of Government

corporations;d. Industrial Sector: extending the trade liberalization program and

shifting incentives towards labor-intensive, export-oriented

industries;e. Agricultural Sector: institutional changes directed to improving

access to land, inputs, extension services and credit.

3.3 The Government program won the support of the IMF, which approved inOctober 1986 an 18-month Standby Arrangement; the main objectives of the programmonitored under the IMF Standby included reducing the National Government deficitand monetary growth, increasing international reserves and maintaining a flexibleexchange rate system.

3.4 Within the Government program, four areas were identified as high priorityand were supported by the Economic Recovery Loan (ERL) and Economic RecoveryTechnical Assistance Project (ERTAP):

a. reform of the tax system;b. continuation of trade liberalization program;c. restructuring of public investment program;d. reform..of Government financial institutions.

The initial concept of the loans was originally discussed at the S.tbcommitte9

meeting of the Consultative Group for the Philippines in May 1986; the loans were

appraised in July-August and negotiated in December 1986.

- 53 -

4 The Program of Action under the Economic Recovery Loan

4.1 Reform of the Tax System. The overall tax effort in the Philippines had

been consistently low, in comparison with other middle income countries, and thetax system had distortive effects on resource allocation and created inequitiesbetween taxpayers. The low elasticity of the tax system had required frequentadjustments in the tax rates in order to provide additional revenues, andinstitutional limitations led to heavy reliance on international trade taxes.

4.2 In order to improve the extremely weak performance of the tax system and

increase its overall economic efficiency, the program included the followingmeasures:

a. Income Tax: partial globalization of income taxation; increase of

personal exemption; decrease of marginal tax rate.

b. Indirect Taxes: rationalization of excise taxation; abolition of

all export taxes, with the exception of duty on logs; introduction

of value added tax to replace sales taxes.c. Tax Administration: reassessment of property values; provision of

tax amnesties; provision of incentives to increase collections.

These measures were designed to raise tax revenues from 10 percent of GNP in 1986to 11 percent in 1987 and 12 percent in 1988. In addition, studies on selected

taxation issues -- capital gains tax, inflation adjustment of depreciationallowance, tax incentives, inclusion of interest in globalized income tax,property ta,.acLn -- were to be undertaken.

4.3 Trade Reform. A tariff reform and trade liberalization program had been

initiated in 1980, supported by SAL I and SAL II. The program had initially beensuccessful: between 1980 and 1982 the average tariff rate fell from 43 to 30

percent, and the total number of restricted imports declined by about 30 percentas almost 900 consumer goods were liberalized, A series of payments crises,however, derailed the trade reform program: an import tariff surcharge wasintroduced and administrative restrictions were expanded between 1983 and 1985,

as the Government sought to reduce imports. As of end-1985, restrictions coveredabout 25 pevcent of total imports.

4.4 The trade reform program was thus aimed at achieving, in the first place,substantial liberalization of restricted imports and, secondly, reforming thetariff structure with the objectives of reducing level and dispersion ineffective protection. The following measures were to be taken:

a. elimination of administrative restrictions on 1232 items, or about

14 percent of imports;

b. announcement of a program for further liberalization and tariff

reform.

4.5 Public Expenditure. As a result of budget stringencies, public investment

and O&M expenditures was drastically reduced during 1984-85. The restructuringof the public investment program was necessary both because of financin.i

'onstraints and excessive arowth in the early 1980s; the level of investment b.1?85 was however insufficient to replace depreciated assets and adequatelysupport private sector development in the medium term. The level of O&Mexpenditures had also declined to the point where it was insufficient to maintainexisting investment in working conditions, in particular in irrigation.

- 54 -

4.6 The action program called for the following measures:

a. maintenance of a public investment rate of 5-6 percent of GNP in1988-90;

b. maintenance of O&M expenditures in the economic and social sectors

at least at their 1982 real level;c. submission the Medium-Term Public Investment Program to the Bank for

annual reviews, and notification to the Bank of any major changes inthe program;

d. implementation of an improved monitoring system for publicinvestment projects;

e. improvement of coordination between Planning Department and Officeof Budget and Management to ensure adequate budget support through

the implementation of investment projects.

4.7 Reform of Government Financial Institutions. The Bank's first majorinvolvement with financial sector reform in the Philippines took place in 1979,when a joint Bank-Fund mission undertook a broad study of the financial system.

The recommendations of the study included the liberalization of interest ratesand the reduction of institutional fragmentation. The study led to a majorreform of the financial sector in 1981-82, supported in part by the Bank'sIndustrial Finance Loan. The reform liberalized interest rates on loans to theindustrial sector, deregulated interest rates on deposits, gave more flexibilityto banks to undertake long-term lending, and limited the role of the Central Bankas "lender of last resort". On the institutional side, the legally mandatedfunctional classification was significantly reduced, and universal banks werecreated, with authority to engage not only in traditional commercial banking butalso in investment banking.

4.8 Further reform of the financial sector was a high priority for theGovernment: its underlying objectives included the reduction of the Government'sdirect presence in the financial system, the encouragement of private sectorownership of financial institutions, and the elimination of preferentialtreatment of Government financial institutions vis-a-vis private financialinstitutions. A most urgent pre-condition for the attainment of these objectiveswas, however, the re-organization of the two largest Government-owned banks,Philippine National Bank (PNB) and Development Bank of the Philippines (DBP).These two institutions, accounting for almost one-half of total banking assets,were technically bankrupt, with 80 percent of their combined portfolio being non-performing, and had become a heavy burden for public finances, requiringbudgetary support amounting to almost 4 percent of GNP per year during 1984-86.The deterioration of these two banks was related to the overall economic crisisand was exacerbated further because of internal political problems and inadequatemonitoring and accountability by the banks' management.

%.9 The program for financial sector reform in general and Government financialinstitutions in particular, included the following actions:

a. issuance by the Monetary Board of a Policy Statement on theFinancial System, spelling out the principles for future reform;

b. avoidance of establishment of new banks by the Government;c. achievement of financial viability by Government-owned banks,

elimination of budgetary support or other special advantages,enhancement of performance monitoring and increased accountabilityby means of external audits;

- 55 -

d. restructuring of PNB and DBP;e. restructuring and divestment of six smaller banks that had been

acquired by the Government following financial difficulties;f. separation of special credit programs directed by the Government

from the banks' own resources;g. studies of four GFIs (Land Bank of the Philippines, Philippine

Export and Loan Guarantee Corporation, Government Service InsuranceSystem and Social Security System) with the objective of reviewingtheir role, long-term viability and needs for restructuring ardstrengthening.

4.10 The program for restructuring DBP and PNB included the establishment of newcharters, installation of new management and boards, transfer of liabilities andnon-performing assets to the Government for disposition, implementation ofprograms to reduce staff and other costs, establishment of ceilings forGovernment deposits, improvements in monitoring their performance andcoordinating their activities.

5 Program of Action under the Economic Recovery Technical Assistance Project

5.1 Given the level of complexity of several actions supported by the ERL, asizeable technical assistance component was designed to complement the operation.The program included the provision of technical assistance in the followingareas:

a. institutional strengthening of DBP and PNB;b. disposition of non-performing accounts transferred by PNB and DSP to

the Government;c. study of social insurance institutions;d. strengthening of regulatory functions of the Central Bank;e. support to the Ministry of Finance to improve expenditure control

and accounting.

6 Role of the Bank in the Design of the Operation

6.1 The Bank had been extensively involved in the trade and financial sectorin the Philippines: in the early 1980s two adjustment operations (SAL I and II)had supported reforms in the trade regime, industrial policy and energy policy;in the 1970s several lending operations through DBP were undertaken but weresubsequently halted because of DRP's mounting financial problems; and in theearly 1980s the Industrial Finance Loan and the Agricultural Credit Projectsupported important financial sector reforms, including the liberalization ofinterest rates and the gradual elimination of subsidized lending in theagricultural sector.

6.2 In addition to the lending operations, in 1986 a Bank economic report ("ThePhilippines: A Framework for Economic Recovery", Report 6350-PH, November 1986)had analyzed the causes of the crisis and the need for policy reform. The reporthad identified th4 public finance problem as the main constraint to economicrecovery in the short run, and had recommended improving tax collections, cuttinytransfers to Government financial and non-financial corporations, and increasingthe external financing of the public deficit as the macroeconomic managementmeasures needed to prevent accelerating inflation and further crowding out ofprivate investment. To restore long-run growth prospects, the report recommendedfurther trade liberalization, restructuring of the Government financial

- 56 -

institutions, increased public sector revenue generation and collection, re-orientation of public expenditure priorities towards infrastructure investmentand O&M expenditures, and an external debt management strategy focused onrescheduling. Analogous recommendations for structural reforms had already beenformulated in a previous economic report ("The Philippines: An Agenda forAdjustment and Growth", Report 5258-PH, November 1984) but had not resulted inan adjustment operation because the economic crisis that had overtaken thePhilippines had shifted the attention towards short-term stabilization issues.

6.3 In addition to these economic reports, a number of Bank studies hadaddressed specific issues. A joint Bank-Fund study in 1985 ("The Tax and CustomsSystem of the Philippines", IMF FAD paper, June 1985) had identified a number ofareas for reform, in order to increase elasticity, equity and efficiency of thetax system. A report on import restrictions ("Philippines Import Restrictions",March 1985, Report 5575-PH) reviewed issues in trade liberalization that wereleft unresolved after the SAL I and II and the potential for resource mis-allocation arising from these regulations.

6.4 The program supported by the ERL was to a large extent the result of on-going dialogue involving the Philippines authorities, the IMF and the Bank. Thechange of Government in 1986 had improved the dialogue as the new authoritieswere committed to reducing the role of the Government in the economy andencouraging private sector initiati-e. In the actual design of the ERL, therewas continuous cooperation between the IMF and the Bank; in particular, duringthe ERL appraisal mission the IMF mission was negotiating the new standbyArrangement. The division of labor between IMF and Bank had the Fund concentrateon trade policy and indirect taxation issues, while the Bank took the lead roleon the reform of the GFIs, the public expenditure program and direct taxation.The Government prepared proposals on each policy area covered by the loan; theproposals were then discussed and amended where necessary. Differences on theglobalization of income taxation and the content of the investment program aroseduring appraisal but were subsequently resolved.

7 Accomplishments of the Adjustment Program

7.1 Macroeconomic Performance. If one is to judge the accomplishments of theERL on the basis of macroeconomic performance in the years of the program, theERL has done very well. Table 1 below presents the evolution of the maineconomic indicators during the period 1980-89. During 1987-89, a substantialrecovery took place, and inflation was kept under control. On average, GDP,consumption and export growth exceeded the projected targets, while savings andinvestment did not recover as rapidly as anticipated. Imports also substantiallyexceeded the targets, and as a result the current account performance was worsethan expected in 1989. Actions taken under the ERL clearly contributed to theresumption of economic growth by addressing crucial constraints to the recoveryin all four areas covered by the program. Equally important were the restorationof domestic confidence and the infusion of official development assistance thal:were rekindled by he new Governmentls commitment to economic reform. Thesefactors taken together were important in addressing the immediate problems andvekindling growth.

7.2 The Government was also successful in the management of externalliabilities. The strategy concentrated on the achievement of comprehensiverescheduling agreements with bilateral and commercial creditors, as recommended

- 57 -

in the Bank economic reports. A commercial bank rescheduling agreement in 1987deferred USS9 billion in principal repayments due over the 1987-92 period, anda Paris Club reacheduling agreement in 1989 deferred US$2 billion in principalrepayments due in 1989-92. Agreement on a new financing package from commercialbanks was reached in 1989; as a result, the Philippines obtained USSO.7 billionof new money, marginal repricing of existing debt, and retired USS1.3 billion at50 percont discount in 1990 through a buyback operation. As a result of theserestructuring operations and slower than anticipated disbursements by officiallenders, external debt accumulation was less than projected and the debt to GDPratio declined faster than projected.

7.3 While economic management and performance improved dramatically during theprogram period, substantial problems were however not solved. Large publicsector deficits continued to arise from insufficient resource mobilization andlarge external debt; since they were not monetized but financed through issuanceof short-term bonds, a rapid increase in the stock of domestic public debt ensuedin 1988 and 1989, leading to a sharp increase in real interest rates. The realexchange rate was allowed to appreciate in 1987-89, increasing the pressure ondomestic interest rates, damaging exports and encouraging imports. Public sectorinvestment, though gradually increasing, was not sufficient to preventbottlenecks in particular in energy and transport. Thus, both resourcemobilization and public investment appear to have been correctly identified ascrucial areas for improvement under the program supported by the ERL.Improvements in revenue mobilization, however, was not sufficient to offset thestrain imposed on fiscal balances by the burden of external debt, and. theincrease in level and quality of public investment not sufficient to sustain thegrowth of private sector activity.

- 58 -

Table 1: Key Macroeconomic Indicators

1960 1981 1982 1993 1984 1985 1996 1987 1988 1989

Real Growth Rates:Gross Domearic Product 5.3% 3.8% 2.9% 1.0% -6.1% -4.3% 1.4% 4.7% 6.3% 5.6%Gross Domestic Income 3.7% 3.2% 2.3% 1.8% -6.0% -4.61 2.1% 4.8% 9.5% 6.1%

Real per Capita Growth Rates:Gross Domestic Product 2.5% 1.2% 0.3% -1.5% -8.4% -6.5% -0.9% 2.3% 3.8% 3.2%Total Consumption 1.6% 0.1% 8.6% 1.4% 3.8% -5.1% -1.0% 1.8% 4.1% 4.8%Private Consumption 1.7% 0.0% 9.5% 2.5% 5.2% -5.3% -0.8% 1.5% 4.0% 4.5%

Debt and Debt Service:Total DOD/GDP 49.5% 54.1% 61.5% 70.5% 75.3% 81.4% 92.2% 87.5% 74.5% 65.1%Debt Service/Exports 13.9% 18.0% 23.5% 21.71 18.1% 19.8% 26.2% 30.8% 25.9% 21.6%Debt Service/GDP 6.2% 7.7% 8.8% 8.7% 8.3% 7.8% 9.9% 10.5% 9.9% 7.6%interest/Exports 18.6% 25.5% 30.7% 25.0% 24.L% 22.2 18.8% 20.2% 18.8% 17.6%Interest/DP 4.2% 5.7% 6.2% 5.9% 6.0% 5.3% 5.3% 5.4% 5.1% 4.9

Grose Invustment/GDP 31.4% 30.9% 29.0% 27.3% 16.5% 13.5% 12.1% 15.5% 17.1% 1R.6%Domestic Savinge/GDP 23.1% 22.9% 20.0% 18.6% 14.4% 14.3% 16.2% 14.4% 15.7% 16.0%Current Account Balance/GDP -5.4% -5.3 -8.0% -8.0% -4.0% -0.1% 3.1% -1.3 -1.0S -3.31

GDP Deflator (0 growth rate) 15.6% 11.1% 8.4% 11.6% 49.9% 18.4% 0.9% 7.9% 9.7% 10.6%

Real E30hanae Rate (1989-100) 139 143 149 125 124 135 106 97 I5 100TeLms of Trade Index (1989-100) 98 86 82 91 97 89 93 96 105 100

Export (GNPS) Volume Growth Rate 12.7% 1.1% -1.1% 9.0% 9.3% -7.4% 21.8% -1.31 15.9% 8.3%Exports (GNFS)/GDP 17.1% 16.7% 16.0% 17.3% 19.9% 19.3% 23.2% 21.8% 23.8% 24.4%Import (GNFS) Volume Growth Rate 3.2% -2.6% 3.2% 11.8% -16.5% -23.1% 12.9% 26.5% 33.4% 27.3%Imports (GNFS)/GDP 17.8% 16.7% 16.8% 18.6% 16.5% 13.3% 14.8% 17.8% ZZ.4% 27.0%

7.4 Implementation of the Program of Action Supported by the ERL. The programof action was implemented satisfactorily. The general objectives of the program,providing support for the Government's economic recovery efforts, were achieved,as discussed above. The sectoral objectives of the program in the area oftaxation, trade policy, public expenditure and reform of financial institutionswere all achieved, though progress fell short of expectations in tariff reform.In other areas, such as tax revenue mobilization and public investment,institutional weaknesses limited the achievements of the program, and are beingaddressed under subsequent operations.

7.5 Concerning compliance with legal agreements, some conditions were waivedat time of tranche release. The disbursement of the second tranche requiredwaiving the condition related to the level of public investment, which was below

the target of 5 percent of GNP, and the condition concerning the implementationof the technical assistance component, in addition to two conditions that werein the process of being met (tariff reform studies and the 1986 audit of PNB).The disbursement of the third tranche required waiving again the conditionconcerning the level of public investment, which had substantially increased butnot yet reached the target level, and the condition concerning the implementationof the technical assistance component; in addition, the condition requirina aindependent external audit of APT for 1987 was waived on the ground that

Commission on Audi (COA) had objected to a private audit but had performed theaudit itself.

7.6 Reform of the Tax System. The core of the tax reform program supported bythe ERL was implemented prior to Board presentation, with the exception of theintroduction of value added tax, scheduled for October 1988. Concerning directincome taxation, the most important measures included the globalization on income

- 59 -

for the purpose of direct taxation with the exception of interest income (whichremained subject to a 20 percent withholding tax), the increase in personalexemptions to exclude households below the poverty line from income tax, thesimplification of tax brackets and reduction of the highest marginal tax ratefrom 60 to 35 percent. Concerning property taxation, real property taxes werecollected on the basis of re-assessed property values. Concerning indirecttaxes, several rationalization measures were taken and all export taxes wereabolished, with the exception of the duty on logs, maintained for conservationpurposes.

7.7 Subsequent actions included the introduction of the value added tax, themost important innovation undertaken under the ERL, introduced ahead of scheduleon January 1, 1988. The VAT was introduced in a phased manner, with technicalassistance from the IMF, and implemented satisfactorily. Five studies ontaxation and fis7al incentives were completed in November 1988, fulfilling theprogram 6f action for tax reform under the ERL. The studies covered inflationadjustment of capital gains on real property, inflation adjustment ofdepreciation allowance, rationalization of incentives in the basic tax code,inclusion of interest income in globalized income tax, and property taxation.Further measures were not undertaken as the studies did not recommend additionalreforms.

7.8 While implemented according to the program, tax reform was only partiallysuccessful in achieving its goals: while collections improved, in particularfrom direct taxes, revenues remained below potential. The indicative target forthe tax-to-GNP ratio set under the ERL was met in 1987 but not in 1988, as thenewly introduced VAT did not completely offset the losses from the eliminationof the sales tax. The increase in tax effort continued in 1989, when it reached12.8 percent of GNP, and, according to preliminary data, in 1990, when it reached14 percent. While these results are very encouraging and indicate that theregulatory framework put in place under the program is adequate, institutionalweaknesses in the tax collection agencies continue to limit the tax effort andare now being addressed as an institutional strengthening issue by a joint Bank-Fund effort. Table 2 below shows direct and indirect tax performance.

Table 2: Government Tax Revenues a

1990 1981 1992 1983 1984 1985 1986 1997 198 1989

Tax "evenues, as share of G4P:Itdirect Taxes 10.0% 8.8% 8.8% 9.4% 8.5% 8.4% 8.8% 10.1% '.91 9.0%Direct Taxes 3.0% 2.8% 2.7% 2.5% 2.7% 3.0% 3.3% 3.3% 3.4% 3.9%Tc,tal Taxes 13.0% 11.6% 11.5% 11.9% 11.21 11.4% 12.11 13.51 11.3 1Z.Ri--- ----------------------------------------------------------------------------------------------------

7.9 Trade Reform. As discussed above, the ERL followed two adjustmentoperations that had experienced difficulties in the area of trade liberalization.Thus, to avoid a'perceived risk of slippage, a large part of the program ofaction for trade-.reform under the ERL was implemented prior to Boardpresentation. By end-1986, the Government:

a. announced a program to eliminate administrative restrictions on 1232items, or about 14 percent of imports, and eliminated restrictionson 929 items;

- 60 -

b. eliminated the requirement of prior approval for capital goodsimports;

c. raised tariff rates on all goods with rates of 0 to 5 percent to anew minimum of 10 percent, in order to reduce tariff dispersion.

7.10 The following actions were required prior to the release of the second andthird tranche:

a. completion of a program of studies to develop proposals for furtherreform of the tariff structure;

b. completion of studies, and announcement of a program for, furtherliberalization of quantitative import restrictions;

c. public announcement of a program for further reform of tariffs onimports;

d. implementation of a program for further liberalization ofquantitative import restrictions.

7.11 In the first year of the proc , the action program was satisfactorilyimplemented. The program to liberc restricted import items which had beenagreed and initiated ptior to Bo. ?ntation was implemented as envisaged,and for some items the schedule was elerated. During 1987, 171 items wereliberalized, including raw materials such as textile fibers, paper and paperboardproducts. Quantitative control were replaced with tariff protection, thusentailing some upward tariff adjustments within the agreed ceiling of 50 percent.In many cases, the tariff increases were temporary and included time-boundprovisions for reductions to pre-existing levels. In addition, the Governmentbegan the requested studies for further tariff reform that would lower protectionlevels and reduce overall tariff rates.

7.12 In February 1988 the Government announced a schedule for a second stage ofliberalization, regarding the 673 remaining restricted items. It planned to free104 items (List A) by the end of 1988 and to review 455 items (List B) forpossible liberalization by end-1989. The remaining 114 items were to continueto be restricted indefinitely because of security and health reasons (List C).The Bank expressed disappointment with this proposal, and after discussionsagreement was reached on the following: (a) the liberalization schedule for ListA items (with 41 scheduled for June 1988, 43 for December 1988, and 20 for June1989); (b) the announcement of the schedule for liberalization of List B items(to be implemented gradually, with one-third decided by December 1988, anotherthird by June 1989, and the last third by December 1989; and (c) the reductionof the number of items in List C to 95 (with the transfer of yellow corn and meatitems to List B).

7.13 At the time of the secord tranche release, in March 1988, the conditivinrequiring completicn of the studies on further tariff reform was not met and thuswaived on the ground that the studies were under way. It was the Government'sview that further tariff reductions would undermine the trade liberalizationprogram and lead to pressures to reimpose quantitative restrictions. The Bank

felt that a delay in the announcement of the new tariff program until later in1988 was warranted, provided the program for liberalization of quantitati*erestrictions remained on track and was expanded to cover a significant part .1f

the remaining 673 items.

7.14 The liberalization of 1232 items initiated prior to Board presentation wascompleted according to the agreed schedule, with the last 129 items liberalized

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in April 1988. Concerning the second stage of the liberalization program thathad been agreed in March 1988, the June 1988 deadline for liberalization of 41items in List A was not met. However, the program was put ahead of the agreedschedule in December 1988, when restrictions were lifted for 94 of the 104 ListA items and the Bank waived the liberalization of the remaining 10 items on ListA. The Government subsequently undertook reviews of the remaining items whoseliberalization was to be evaluated, and a program for further liberalization wasagreed under the 1989 IMF Extended Arrangement, aiming at eliminating most non-tariff restrictions by end-1994. As envisaged by the IMF-supported program,restrictions covering 93 items were lI"ted between January and October 1989. In

December 1989 a further 39 items from List B were liberalized, thus leaving a

total of 447 restricted items (of which, 331 items on Lists A and B were to beliberalized by end-1994 and 116 on List C were to remain regulated). Actualelimination of import restrictions is shown in Table 3.

Table 3: Elimination of Quantitative Restrictions on Imports 1/

1980 1981 1982 1993 1984 1985 1986 1987 1988 19A9

Imports Subject to QRS:Number at end-year 2901 2638 2051 2014 2041 1967 973 802 579 447rercentage Change per annum -9% -22% -2% % 1% -4% -51% -18% 28% -231

1/ The change in the number of items subject to QRe reflects both additions to and deletion from thelist of restricted items.

7.15 Progress on tariff reform did not materialize after 1987. During 1988,some restoration of tariffs lower than 10 percent on agricultural inputsoccurred. A program of tariff adjustment was introduced, but further adjustmentsdid not lower overall protection, as originally envisaged, but rather offset loss

of protection resulting from removal of QRs. By December 1989, the Government

had introduced legislation to rationalize import tariffs and was preparing a billthat would reduce some import tariffs on capital goods. A sweeping tariff reformwas introduced by Executive Order in July 1990, but its implementation wasblocked because of Congressional opposition. The Gulf crisis and ensuing fiscaldifficulties led to the introduction of a 9 percent import surcharge in January

1991, scheduled to expire in June 1992.

7.16 Public Expenditure. The program of action regarding the public expenditureprogram was concentrated on improving the level and composition of publicinvestment and O&M expenditures, as well as strengthening implementation and

monitoring of public investment. The Medium-Term Public Investment Program for1987-92 was agreed with the Bank prior to Board presentation. In 1988 a Bank

economic report ("The Philippines: Selected Issues in Public Resource

Management", Report 6887-PH) analyzed in detail sectoral composition and qualityof projects in the program. The report concluded that the investment program wasappropriate in size and content, but a small number of projects -- about 7percent of the total program -- appeared inappropriate and their elimination was

recommended. The, report also recommended increasing investment in the socialsectors and improving cost-recovery and pricing policies. Subsequent updates of

the public investment program, which is issued annually on a five-year r,:lli:1:f

basis, have been regularly reviewecd by the Bank and have been found satisfactory

to date.

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7.17 The program under the ERL required that the level of public investment beincreased to 5 percent of GNP and that O&M expenditures be increased to the 1982constant price level. Public investment and O&M expenditures were budgeted atadequate levels, but actual cash expenditures did not grow as rapidly asenvisaged during the program period, both because of financing constraints andlimited implementation capacity. In particular, the public investment target wasnot reached and the corresponding condition was waived both for the second andthird tranche release. For this reason, and given that the need for adequateinfrastructure and maintenance has not ceased to be critical, the two conditionsconcerning public investment and O&M expenditures were retained under the DebtManagement Program (Loan 3149-PH) approved in December 1989; this program alsoincluded several measures aimed at improving project preparation and

implementation procedures for the public investment program, which have beensatisfactorily implemented to date. According to preliminary data, publicinvestment reached its 5 percent target in 1990. Table 4 below shows publicinvestment and O&M expenditures.

Table 4: Government O&M Expenditures and Public Investment 1/

1982 1983 1984 1985 1986 1987 1988 1989

Public Investment, 1 of GNP 8.7% 7.4% 4.5% 3.7% 3.0% 3.11 3.3% 4.01

O&M Expenditures, % of 1982 level 100% 89% 75% 63% 69% 82% 71% 96%

1/ Public Investment includes investment by the National Government and Public Corporations;O&M expenditures include only the economic and social sectors of the National Government.

7.18 The monitoring of public investment by the Philippine Government has

improved substantially. In 1987 NEDA developed a monitoring system for itspublic investment program and initiated reporting on its status on a quarterly

basis. The system continues to be implemented by NEDA's Project MonitoringStaff.

7.19 Reform of Government Financial Institutions. Substantial actions were

implemented prior to Board presentation also concerning the reform of thefinancial sector and the restructuring of GFIs. These measures included:

a. Financial Sector Policy: issuance by Monetary Board of an overallpolicy statement on the financial system, a resolution on externalaudit for GFIs, resolution on contingent liabilities, and a policystatement limiting public sector deposits at Government depository

banks;b. DBP and PNB: approval of revised charters of DBP and PNB and

issuance of policy statements by the Boards of these institutions;approval by these Boards of rehabilitation programs and transfer ofnon-performing assets; agreement with the Bank on cost reduction and

branch-closing programs; agreement with the Bank on programs tostrengthen internal goernance procedures and performance ionitorinl

systems;

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C. Institutional Strengthening: establishment of the Committee onPrivatization, to supervise disposal of assets transferred from DBPand PNB, and the Asset Privatization Trust, to implement theirdisposal; appointment of trustees for APT; designation of the Inter-Government Financial Institutions Policy Coordinating Committee tomonitor performance of PNB and DOP.

7.20 For second and third tranche release, the following measures were required:

a. Financial Sector Policy: satisfactory management of public sectordeposits in Government depository banks; issuance of financialaudits for DBP and PNP by independent external auditors for fiscalyears 1986 and 1987, and for APT fir fiscal year 1987; divestment ofsix Government acquired banks (Associated Bank, Commercial Bank ofManila, Filipinas Bank, International Corporate Bank, RepublicPlanters Bank, Union Bank);

b. DBP and PNS: satisfactory implementation of cost reduction andbranch closing progr -, internal reorganization and strengthening ofinternal procedures, performance monitoring system; transfer oftitle of assets to be disposed;

C. Institutional Strengthening: establishment of satisfactoryorganizational, staffing and financial procedures for APT;satisfactory implementation of performance monitoring system for DBPand PNB, and their attachment to the Ministry of Finance; completionof studies on Government Service Insurance System, Social SecuritySystem, Land Bank of the Philippines, and Philippine Export andForeign Loan Guarantee Corporation.

7.21 At the end of 1985, Government ownership of banking sector assets amountedto P158 billion, or about 40 percent of total banking sector assets, excludingthe Central Bank. After the massive write-downs taken by DBP and PNB at the endof 1986, in compliance with the program of action supported by the ERL, the shareof Government-owned banking sector assets declined to 21 percent of the total.The write-downs were implemented by transferring all non-performing loans of P10million or more each from DSP and PNB to the APT for work-out and ultimately saleto the private sector; the corresponding liabilities were transferred to theGovernment. In the case of DSP, total assets were reduced from P74 billion toP10 billion; for PNB, the reduction in assets was from P70 billion to P26billion. After these asset write-downs and the transfer of the correspondingliabilities, both institutions became comfortably capitalized.

7.22 In addition to restructuring the portfolio of PNO and DSP, theirorganizations were restructured to achieve cost-effective operations and specifictargets were set to meet this objective. In the case of PNB, a staff reductiontarget from about 6,500 to 5,600 was set, to be achieved by the end of 1987. Infact, PNB did better: by November 1987, the staff had been reduced to 4,725.During 1988, when the volume of operations increased, total staff strengthincreased, but by1the end of 1988 the staff totalled some 5,300, still lower thanthe original target. Nine foreign branches were closed and the remaining sevenwere reorganized. Ten domestic regional offices were closed, and 65 domesticbranches were reclassified and restricted to deposit takino without lendinaauthority. The internal organization structure was revised to reduce the numberof departments from 31 to 22, with corresponding increase in the span ofsupervision. In addition, the operations management was streamlined withconsiderable strengthening of electronic data processing. In the case of DSP,

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total staff was reduced from the pre-ERL level of 3500 to about 1900 by the endof 1989. Its internal organization structure has also been changed to enable itto respond to its role primarily as a wholesale bank, as was agreed subsequently.

7.23 The elimination of special privileges to GFIs was also satisfactorilyimplemented, and thire are now no special tax and credit privileges to either PNBor DSP. The only privilege temporarily allowed was the maintenance of Governmentdeposits for P2 billion in interest-free accounts at DBP for a limited period ofthree years, in order to allow DBP to tide over its initial phase ofrestructuring. These deposits were eliminated by the end of 1989.

7.24 Lack of a proper system of governance was considered to be a principalcause for the poor performanice of PNB and DBP. Considerable weight was,therefore, given to imp oving the system of management, performance monitoringand auditing. Two main actions were agreed: shifting the location of theGovernment's ownership rights from NEDA to the Department of Finance, andrequiring PNB's and DBP's accounts to be audited by independent externalauditors. In addition, new managements were appointed and DBP's board ofdirectors was also reconstituted. As regards the first, the attachment of PNBand DSP was not shifted to DOF; instead, both now report directly to the Officeof the President. The performance of both institutions is also monitored by theInter-Government Financial Institutions' Policy Coordinating Committee which isa group of GFI heads chaired by the Secretary of Finance and including theGovernor of the Central Bank of the Philippines. This arrangement was deemedacceptable by the Bank. As regards the second, DBP and PNB both appointedprivate auditors immediately following the ERL, and independent audits wereperformed on DBP and PN8 accounts for fiscal year 1986. There was, however,strong resistance from COA; as a result, the accounts of DBP and PNB were sinceaudited by COA. This was deemd acceptable by the Bank, on the ground that COA,while being a public institution, was an external auditor. Similarly, the auditfor APT for fiscal 1987 was performed by COA.

7.25 The streamlining of the organization structures and operations, the costreduction programs and the improvements in management and governance have enabledboth PNB and DBP to emerge from their respective rehabilitation as profitable andfinancially sound institutions. For the year ended December 31, 1989, PNB earneda record profit of P2.1 billion. This implied a yield of almost 37 percent onyear-end equity and amounted to a return on assets of 3.7 percent. Since 1986-87, PNB's tetal deposits, loans and capital have all shown healthy increases.For DBP, too, the financial performance has been highly satisf,s.tory. For 1989,its income before tax amounted to P1.1 billion; net return or. assets, 9.5percent; and return on average equity, 18.8 percent. It is conservativelycapitalized, with debt/equity ratio of less than 1:1 and ample liquidity.

7.26 A major achievement has been the partial rrivatization of PNB. Althoughit was not a specific commitment under the ptogram, in 1989 the Government madea secondary pub'lic offering of 10.8 million sharea, or 30 percent of the totaloutstanding shares. Not only did it net P1.8 billion to the Government andfulfilled the obieptive of privatization envisaged under ERL, but it also hadbroader capital maxket development implications. It added P4.7 billion to themarket capitalization of listed equities in just two months and, becAuse it wassold to widely dispersed individual investors, added some 25,000 additionalstockholders. It demonstrated that properly structured equity deals involvingGovernment-owned corporations could be successfully completed. PNO was the mostactively traded stock on the manila Stock Exchange in 1990.

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7.27 As regards DOP, it was agreed that certain branches would be consoliaatedand disposed of to private investors in a phased manner. Partly in the light ofthe PNB experience and partly as a result of a subsequent Bank study of thePhilippine financial sector ("Philippines: Financial Sector Study", Report 7177-PH) -- which recommended a transformation of DBP intQ a primarily wholesale bank-- a new approach was envisaged, hiving off DSP's retail operations into aseparate legal entity which would then be gradually sold to private investorsthrough public offerings. But in April 1991 this approach was deciaredincompatible with DBP's Charter by the Ministry of Justice. DBP is currentlyexploring alternative means of accomplishing privatization. The Bank continuesto monitor DSP's privatization efforts in the context of three sitbsequent lendingoperations, the Financial Sector Adjustment Loan (Loan 3049-PH), the IndustrialInvestment Credit Project (Loan 3123-PH) and the Industrial Restructuring Project(Loan 3287-PH). In the context of the program originally envisaged under the

ERL, the judc -sent must be that the privatization of DBP has been delayed.

7.28 As regards the privatization of the six banks that the Central Bank hadtaken over as a result of the exercise of regulatory powers in the periodimmediately preceding the ERL, the actual performance has been mixed. So far,three banks have been sold to private investors and all the three banks havesubstantial foreign investment. The Gqernment remains firmly committed to thesale to private investors of the remaining banks, but has been repeatedlyfrustrated in the actual sales because of the continuing litigation beingconductet4 by the previous owners and managements.

7.29 Even after the rapid growth of PNB and the gain in its market share, andin spite of delays in privatizing DBP and the six Government-acquired banks, theGovernment's overall share in the banking sector assets continues to be under theindicative figure of 25 percent mentioned in the Development Policy Letter.Since then, particularly in 1989-90, both PNB and DBP have grown rapidly, PNBgaining momentum after its partial privatization and DSP after its emergence asthe principal wholesale lender in the country. But the overall assets of thefinancial system have also grown substantially, and the increase in the marketshare of PNS and the specialized Government banks (as measured in terms ofassets) has thus been small: at the end of 1990, PNB accounted for 15 percentand the other Government banks accounted for 8 percent ot total banking sectorassets. In addition, now that PNB has been partially privatized and theGovernment banks do not enjoy tax and credit privileges, they face the sameconstraints and incentives as private banks.

7.30 Implementation of the Program of Action Supported by the ERTAP. Theprogram of technical assistance was not implemented as envisaged, and thecorresponding loan canceled in three stages, and closed in February 1990. Thecancellation was caused in part by the Government's desire to use grant funds to

inance technical assistance, and in part by legal and administrative constraintsin the ,hiring of consultants (the latter issue has been addressed under the DebtManagement Program). Technical assistance for the institutional strengtheningof DBP and PNB and the disposal of the their non-performing assets was providedby local resourceir ani the corresponding objectives successfully achieved, asdiscussed above. 'TAe study of social security institutions was also carried outwith local resources. The two remaining areas for which technical assistance wasoriginally envisaged -- strengthening the regulatory functions of the CentralBank and expenditure and a,counting procedures of the Ministry of Finance -- werenot addressed under the program.

i' Tha DBP has taken exception to this statement, questioning the propriety ofimposing such a conditionality. Cf. PCR Annex I, page 106.

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8 Monitoring of the Adjustment Program

8.1 Monitorability. In spite of the complexity of the program of actionsupported by the ERL/ERTAP, the policy matrix and the loan agreement spelled outvery specific and time-bound actions that could be effectively monitored duringthe implementation of the program, with the only exception of trade reform. Asdiscus3ed in the President's Report, a considerable public debate was takingplace in the Philippines with regard to the merits of further tradeliberalization, and concerns about short-term unemployment costs of tradeliberalization were dominating the debate. The Government thus committed toannouncing a trade reform program rather than to implementing an agreed set ofmeasures. This arrangement effectively postponed negotiations on the specificcontent of the liberalization program and required extensive involvement by theBank on this issue during the program period, as discussed above.

8.2 Suvervision. Four supervision missions visited Manila to taview theimplementation of the ERL: in May-June 1987, October-November 1987, in November1988 and in June 1989. The Government of the Philippines provided the Bank threevery comprehei.sive status reports, in October 1987, February 1988 and December1988. These documents witnessed to the Government own concern with monitorinathe iinplementatior if the program and provided extremely helpful background forthe supervision eftorts of the Bank.

8.3 Procurement. According to procedures in effect at the time ofnegotiations, a standard negative list was included in the Loan Agreement, andinternational competitive bidding required for contracts over USS5 million.Commodities commonly traded on international commodity markets were exempted frominternational competitive bidding, as provided by existing guidelines, and a listdetailing these commodities was included in the minutes of negotiations.

9 Conclusions

9.1 Overall Assessment. The ERL accomplished its objective of supporting theGovernment's economic recovery efforts, and its implementation was accompaniedby a marked resumption of growth, averaging about 6 percent per annum during1987-89. Economic management and performance improved dramatically during theprogram period and progress was made towards addressing some of the fundamentalproblems of the economy. Substantial issues were however not solved, inparticular concerning public resource mobilization and management. Policyreforms were introduced under the ERL as intended, with the exception of tariffreform; actions in all other areas were substantially undertaken as agreed, bothin the letter and in the spirit of the program. The operation was designed tocomplement policy reforms with institutional improvements aimed at strengtheningefficiency and accountability in two areas, the management of rovernment:financial institutions and of public expenditures. These institutionalstrengthening efforts were successful in restoring the financial health of thetwo largest banks, thus laying the groundwork for the following stage ;ffinancial sector reform. Concerning institutional building in the area )f publi.cexpenditure management, coordination and monitoring improved substantially, butproject preparation and implementation issues were not solved and were lateraddressed by the Debt Management Program. With hindsight, the very substanti7eprogress made in establishing a more efficient tax system should have beencomplemented by institutional strengthening of the tax collection system. It hasin fact become increasingly clear that institution building as well as

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improvement in inter-agency coordination will be crucial to any furthersubstantial -- and sustained -- improvement in the tax effort.

9.2 Tax Reform. Efficiency and equity of both direct and indirect taxation

were substantially improved by the measures introduced under the ERL, inparticular the globalization of income for direct tax purposes, the introductionof the VAT and the elimination of export taxes. These measures succeeded alsoin improving fiscal balances by increasing tax revenue mobilization, which hasbeen -- and still is -- both below potential and below comparable countries.Further achievements in this area are limited by institutional weaknesses andwill need to be addressed as institutional building issues.

9.3 Trade Reform. SAL I and II supported the Philippine Government in itsfirst stages of trade reform. The reform of the tariff system and of theassociated system of indirect taxes was a major accomplishment, while much lessprogress was made in the area of import Licensing and regulation. The ERLdeepened trade reform by achieving a substantial reduction of quantitativerestrictions. Contrary to expectations, further improvement of the tariffstructure was not achieved, although no condition was technically violated duringthe program period. While there is room for further improvements, both ineliminating remaining administrative restrictions and simplifying and reducingtariff rates, the actions taken under the ERL have significantly improved thePhilippine trade regime.

9.4 Public Expenditure. The accomplishments of the ERL in the area of publicexpenditure have been mixed. On the one hand, the composition of the publicinvestment program has dramat;-%lly improved since 1986 and institutionalmechanisms have been put in place for its periodical review by the Bank. Inaddition, internal monitoring procedures have been strengthened significantly.On the other hand, throughout the program period the level of public investmenthas never reached the target of 5 percent of GNP that had been set in the ERL.This resulted in part from the improvement in the composition of publicinvestment, which had involved discarding inappropriate projects. Inadequatelevels of public investment and insufficient maintenance have however contributedto power supply shortages and difficulties in transportation, which becameparticularly evident in 1990, as a result of external eventL -- such as a severgdrought -- and increased economic activity. The ERL has however played a crucialrole not only in preventing further erosion in these expenditures at a time ofsevere fiscal difficulties, but also in accomplishing their gradual increase toadequate levels.

9.5 Reform of Government Financial Institutions. Under the ERL, the Bankattempted to deal with the very serious financial and organizational problems ofthe two largest Government financial institutions, whose problems constituted Aserious threat to the stability of the financial system as well as to publicfinances. The objectives of the reform program of the GFIs were by and large

realized. The rehabilitation of PN9 and DBP has been satisfactorily completed:both institutions are now not only solvent but in healthy financial condition andthe Government is obtainingj a satisfactory return on its investment. Therehabilitation of PNB was wore complete, as it was partially privatized, and itsfuture d evelopment as a commercial bank is more predictabAe. Therefove, PUB'"suczessful rehabilitation can be expected to be sustained. DBP's financialrehabilitation is also complete and DBP is now profitable with a conservativecapitalization. However, its long-term functional transformation is still inprogress. DBP's privatization strategy is still being defined and its future

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development path as a wholesale bank is more complex. The Bank's involvementwith DBP continues to be intensive in the context of Financial Sector AdjustmentLoan, the Industrial Investment Credit Project and the Industrial RestructuringProject. Finally, the successful experiences of the partial privatization of PNBand the disposal by the Asset Privatization Trust of the non-performing assetstransferred from DBP and PNB have contributed to the design and implementationof the Government Corporations Reform Program (Loan 2956-PH), which focused onthe restructuring and privatization of non-financial Government corporations.

9.6 Following the successful restructuring of the two large Philippine banks,the Bank's involvement with financial sector development took the form of afinancial sector study, which led to a program of action involving the commercialbanking sector and the supervisory functions of the central Bank, supported bythe Financial Sector Adjustment Loan. The Bank is now in the process ofundertaking a study of capital markets and related aspects.

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PHILIPPINES

ECONOMIC RECOVERY PROGRAM (LOANS 2787-PH AND 2788-PH)

PART II: Project Review from the Borrower's Perspective

1 Introduction

1.1 Upon its assumption of office, the Aquino government formulated an economicrecovery program based on the reinvigoration of private sector entrepreneurshipand revitalization of public investments. Major reforms were to be undertakenin four key areas: (1) tax reforms; (2) trade liberalization; (3) publicinvestments; and (4) government financial institutions.

1.2 The government sought the support of the Bank, the International MonetaryFund (IMF) and bilateral partners for this program. A new 18-month StandbyArrangement for 198 million SDRs (equivalent to $240 million) was approved by theIMF Board in October 1986. The $300 million Economic Recovery Loan (ERL) andaccompanying $10 million Economic Recovery Technical Assistance Project (ERTAP)were approved by the Bank Board in March 1987. Cofinancing of Y50 billion(equivalent to $300 million) was also obtained from the Export-Import Bank ofJapan and Y30 billion (equivalent to $240 million) from the overseas EconomicCooperation Fund of Japan.

1.3 Within the context of the new democratic regime, significant gains wereachieved in the implementation of the contemplated structural reforms. Thissatisfactory performance led to the release of ERL tranche disbursements inSeptember 1987, March 1988 and December 1989. Table 1 presents the details andtiming of the policy actions supported by the ERL. This retrospective is aneffort on the part of the government to review both the timeliness andsubstantiveness of these reforms and to assess their sectoral and macroeconomicimpact, with a view to drawing lessons and -o identifying follow-up measures forfuture initiatives.

2 Tax Reforms

2.1 Goal6. Between 1980 and 1985, the tax-to-GNP ratio fell from 11,6 percentto 10.2 percent. The 1986 Tax Reform Package (TRP) was formulated to improve therevenue elasticity of the tax system, ensure that similarly situated individualsand entities bear the same tax burden, withdraw or modify taxes that impairincentives to production, exports and growth, and simplify the tax structure toimprove tax administration and compliance.

2.2 Measures. The TRP -as comprised of 29 measures which included long-termstructural reform initiatives as well as one-time revenue-raising measures. Thestructural reform measures were aimed primarily at improving equity and promotinggrowth and efficiency. These measures includeds (1) the change from schedularto global system of taxing compensation and business incumes of individuals; (2)imposition of a uniform schedule of rates, 0 to 35 percent, on compensation and

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business incomes of individuals; (3) increase in personal and additionalexemptions to relieve from income tares those at or below the poverty threshold;(4) introduction of separate computation for income tax purposes of marriedcouples; (5) elimination of final withholding tax on inter-corporate dividendsand phaseout of final tax on shareholders' dividends; (6) rationalization ofprivate motor vehicle taxes; (7) reduction and simplification of sales taxes; (8)exemption of overseas contract workers from travel tax; (9) abolition of export

taxes except on logs; and (10) withdrawal of tax and duty exemptions with certainexceptions.

2.3 Long-term measures to enhance the revenue productivity of the tax systemincluded the following: (1) increase to 20 percent the final tax on all passiveincomes; (2) imposition of uniform 35 percent tax rate on corporate incomes; (3)ceilings on certain allowable deductions from individual and corporate incomes;(4) introduction of the value-added-tax; (5) increase in taxes on beer, liquorand cigarettes and conversion of these taxes from specific to ad valorem rates;

(6) increase in minimum import duty from zero to ten percent; (7) imposition ofa standardized franchise tax and withdrawal of income tax exemption fromfranchise holders; (8) adjustment of the real property tax base from 1978 to 1984values; (9) increase in taxes on gambling; and (10) increase in incentives forBureau of Internal Revenue (BIR) personnel.

2.4 To offset the revenue losses arising from some of the structural reformmeasures and to raise revenues to finance the new government's expenditureprogram, the 1986 TRP included one-time measures such as: (1) amnesties on incomeand other internal revenue taxes; (2) amnesties on real property tax; (3) taxamnesty on repatriatioi of foreign assets; and (4) compromise settlements ondelinquent accounts and disputed assessments with the BIR and Bureau of Customs

(BOC).

2.5 Implementation. Using her decree-making powers as head of the thenrevolutionary government, President Aquino issued 17 Executive Orders to mandatethe immediate implementation of 26 out of the 29 measures in the TRP (see Table

2). However, the implementation of the two measures prescr$.bing ceilings onallowable deductions from personal and corporate incomes were suspendedindefinitely due to strong opposition from affected sectors and the preferenceto have these ceilings set by provision of law. Inter-agency discussions on theremaining three measures took longer than expected and were overtaken by the

reopening of the Philippine Congress on July 27, 1987. Since then, the executivebranch has been working with Congress to have these measures enacted into law.

2.6 The most radical measure included in the TRP was the introduction of thevalue-added-tax (VAT) to replace the turnover tax, sales taxes, privilege andother percentage taxes. Executive Order No. 273 issued on July 25, 1987 mandatedthe imposition of a uniform 10 percent VAT on the sale and importation of goodsand services based on gross sales, effective on January 1, 1988. Lack of publicinformation on the new tax and of trained personnel to implement it led to lowerthan expected collections in the first year of implementation. However, effortsto address these initial problems have made the VAT an increasingly important

source of government revenues.

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2.7 Revenue Impact. The measures comprising the TRP have markedly differenteffects on tax revenues as can be seen from Table 3. Some - such as (1) thechange from schedular to global income taxation; (2) increase in personal andadditional exemptions; (3) separate taxation of incomes of married couples; and(4) abolition of export duties except on logs - have very large negative impacts,especially in the short term, while others are patently revenue generatingmeasures.

2.8 on the whole, however, the TRP was expected to increase revenue collectionsand their responsiveness to economic activity. As indicated in Table 4, taxcollections of the national government increased annually by an average of 23.7percent during the 1987-1989 period compared to an average of 18.9 percent duringthe 1984-1986 period. Similarly, the tax- to-GNP ratio which averaged only 10.4percent in 1984-1986 increased to 12.4 percent in 1987, fell temporarily to 11.1percent in 1988, and increased again to 12.9 percent in 1989 for a three-yearaverage of 12.1 percent. It increased further to 13.7 percent in 1990.

2.9 The share of direct taxes in total tax revenues increased from 30.3percent in 1984-1986 to 30.6 percent in 1987-1989, indicating a slightlyimprovement in the progressivity of the tax system. However, the bulk of taxrevenues still continue to come from indirect taxes.

2.10 The bouyancy of the tax system averaged 3.6 percent during 1987-1989, upfrom 1.7 percent in 1984-1986. This reflected an improvement in theresponsiveness of tax revenues as a result of discretionary changes in incomeincluding improvements in tax administration. The buoyancy of direct taxesincreased from an ave:age of 2.2 percent in 1984-1986 to 3.2 percent in 1987-1989as a result of the tax measures designed to improve the equitableness and revenueproductivity of the tax system such as the imposition of a uniform 35 percent taxrate on corporate income and withdrawal of income tax exemption of franchiseholders. The buoyancy of indirect taxes also increased from 1.5 percent in1984-1986 to 3.8 percent in 1987-1989 primarily as a result of the increase intaxes on consumer products like cigarettes and beer and the conversion of thesetaxes to ad valorem rates as well as the introduction of the VAT.

2.11 The over-all elasticity of the tax system improved from 1.30 for the1984-1986 period to 1.76 for 1987-1989, signalling a marked improvement in taxcompliance.

2.12 Future Actions. Although much has been accomplished through the 1986 TRP,a lot rattains to be done to make the tax system more equitable, revenueproductive and conducive to economic growth. For example, the revenue potentialof the VAT and excise taxes can be more fully realized by broadening theircoverage to include businessee, persons and goods presently exempt from them orby increasing their rates to match those in comparable countries. The ceilingson certain allowable deductions, especially for personal incomes, should beimposed as soon as possible since self-employed individuals are alreadybenefitting from the lowering of their tax rates without the accompanying limiton their deductions. Further improvements in the efficiency of :he major taxcollection agencies and the plugging of loopholes should also be pui:sued throughboth administrative and legislative means.

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2.13 In all of these future initiatives, the lessons from the 1986 TRP shouldbe kept in mind. No effort should be spared in informing the public especiallythe affected sectors about new tax laws and regulations so that public supportand compliance can be secured as quickly and fully as possible. Likewise, alladministrative arrangements must be put in place prior to the introduction of anymajor tax reform.

3 Trade Liberalization

3.1 Import Liberalization. The import liberalization program started in 1981and had been supported by two Structural Adjustment Loans from the Bank. Abouta thousand items were liberalized between January 1981 and March 1986. However,the foreign exchange crisis that started in 1983 and lasted until 1985forestalled further moves to eliminate import restrictions.

3.2 Phase I. Upon assumption of the Aquino administration in 1986, efforts tostrengthen the industrial foundation of the economy through import liberalizationwere resumed with renewed vigor. A total of 929 items were liberalized duringthe five- month period between April 30 and September 30, 1986. Another 171items were liberalized in 1987 and 129 items in April 1988 for a total of 1,229items during Phase I of the import liberalization program supported by the ERL(see Table 5). A total of 1,232 items had initially been committed under the ERLbut three sugar items were eventually waived in line with domestic sugar policy.

3.3 Phase II. In early 1988, after an intensive review and consultationprocess, the remaining 673 items still subject to import restrictions wereclassified into three lists: List A - 104 items for liberalization by end-June1989; List B - 455 items for review and gradual liberalization; and List C - 114items for continued regulation for reasons of health, safety and nationalsecurity.

3.4 On December 22, 1988, Central Bank (CB) Circular No. 1192 liberalized 94of the 104 items in List A. The ten remaining items were incorporated under ListB which then consisted of 463 items while List C had 116 items. In the March 1989Memorandum on Economic Policy (MEP) to the IMF, the Philippine governmentcommitted to take the following steps with respect to List B items and the tenremaining items under List A:

(a) A minimum of 90 items were to be selected before June 30, 1989, forwhich restrictions would be removed and legislation submitted toCongress to introduce appropriate tariffs on these items by end-September1989;

(b) By December 31, 1989 and again by June 30, 1990, at least 45 additionalitems would be selected from List B, for which quantitative restrictionswould be replaced by tariffs before the end of the IMF Standby Arrangementin mid-1992;

(c) For all items not covered by the above steps, quantitative restrictionswould be replaced by tariffs no later than end-1994 in general. Incertain industries, a longer implementation period may be allowed for

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rationalization, modernization, rehabilitation, and new investments. Suchcases would be announced no later than June 30, 1990.

3.5 Implementation of the above liberalization program proceeded largely onschedule during the implementation period of the ERL. Restrictions on 90 ListB items selected before June 30, 1989 were removed through CB Circular No. 1195dated March 15, 1989 (3 items), CB Circular No. 1205 dated July 14, 1989 (60items), CB Circular No. 1210 dated September 14, 1989 (12 items) and CB Circular

No. 1212 dated October 6, 1989 (15 items). Target date of end-September 1989 wasthus met for 75 of the 90 items with liberalization of last 15 items delayed byone week due to intensive consultations with industries concerned. In addition,one item under List A was also liberalized under CB Circular No. 1210.Appropriate tariff adjustments for items requiring such adjustments were madethrough the President's issuance of Executive Order No. 364 on July 21, 1989.

3.6 By December 31, 1989, an additional 45 items from List B were selected forliberalization by mid-1992. As of end-1989, restrictions on 41 of these 45 itemshad already been removed with the issuance of CB Circular No. 1212 (2 items) andCB Circular No. 1219 dated December 31, 1989 (39 items). The four remaining

items were to be liberalized as soon as appropriate tariff adjustments were putin place. In addition, CB Circular No. 1231 dated February 27, 1990 liberalized8 items which form part of the 45 items scheduled to be announced by end-June1990. This brought the total number of List B items liberalized under Phase IIto 139 as of end-June 1990. Together with the 95 List A items also liberalizedunder Phase II, a total of 234 items had been liberalized under Phase II as ofend-June 1990. Together with the 1,229 items liberalized under Phase I, a totalof 1,463 items were liberalized between April 1986 and June 1990.

3.7 Imnact on Import Growth. Phase I covering the period Apr 1 1986 to April1988 resulted in the liberalization of a significant percentage of imports with

the 1,229 liberalized items accounting for 13.6 percent of total imports in 1985.With the liberalized items growing faster at an annual averag rate of 29.4percent during 1986-1989 than total imports which grew at an average rate of 20.3percent, the share of the 1,229 liberalized items in total imports grew to 18.4percent in 1989 (see Table 6). However, with their import value growing by only0.4 percent to $1,919 million in 1990, the liberalized items accounted for only15.7 percent of total imports in 1990. Of the 1,229 items, 789 items were raw

materials, 436 items were consumer goods and only four were capital goods. Rawmaterial imports accounted for an average of 94 percent of the import value ofliberalized items during 1986-1990 with the balance accounted for by consumergoods.

3.8 Under Phase II which started in December 1988, the bulk of liberalized

items were capital goods, accounting for 188 of the 234 items and 92 percent ofthe import value of liberalized items. From just a 4 percent share of totalimports in 1988, imports of the 234 liberalized items grew by 42.7 percent to$471 million in 1989 and by 28.6 percent to $606 million in 1990 to account for4.5 percent of total imports in 1989 and 5 percent in 1990.

3.9 From $837 million in 1985, the import value of the 1,463 items liberalizedunder Phase I and Phase II grew to $2,383 million in 1989 and $2,525 million in

1990. These liberalized items contributed 7.8 percentage points to the 27.7

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percent expansion of total imports in 1989 but only 1.4 percentage points to the17.2 growth of imports in 1990. The share of liberalized items in total importslikewise dropped from 22.9 percent in 1989 to 20.7 percent in 1990.

3.10 The bulk of liberalized items consisted of iron and steel, synthetic resinsand synthetic fibers and yarns and other raw materials needed by variousindustries. Raw materials accounted for about three fourths of the total importvalue of items liberalized under Phase I and Phase II while the share of capitalgoods ranged from 16 to 22 percent. In the case of liberalized consumer goods,imports accounted for less than 10 percent of liberalized import values andcontributed less than one percent to overall import growth. It can thereforebe said that the import liberalization program has contributed to the expansionof productive capacity and increased the competitiveness of Philippine exportsby allowing the freer entry of producer goods essential for investment and exportactivities.

3.11 Tariff Reform. Complementing the import .. ralization program started in1981 was the tariff reform program geared towards reducing or phasing out tariffprotection which was deemed excessive or obsolete. It aimed to narrow the rangeof tariffs from zero to 100 percent to ten to 50 percent. As a result of thetariff reform program carried out from 1981 to 1985, the average nominalprotection rate was reduced from 43 percent in 1981 to 28 percent in 1985. Therange of effective protection rates for importable sectors was also reduced from22 to 299 percent to a range of 18 to 144 percent.

3.12 Through Executive Order (E.O.) No. 49 dated October 15, 1986 and E.O. No.70 dated November 25, 1986, remaining items subject to less than ten percenttariff were imposed a ten percent ad valorem tariff thereby making it the minimumtariff rate. Although no comprehensive tariff reform program was announced untilJuly 1990, steps were taken to reduce the tariff rate on certain key items suchas crude oil (E.O. No. 303 dated August 25,1987 and E.O. No. 306 dated October20, 1987), cement (E.O. No. 353 dated March 27, 1989 and E.O. No. 387 datedDecember 6, 1989), and motor vehicle spare parts (E.O. No. 404 dated June 8,1990). Tariff adjustments for items covered under the import liberalizationprogram were also instituted through E.O. No. 364 dated July 21, 1989 and R.A.No. 6647 signed on January 29, 1988.

3.13 A major overhaul of the tariff structure was mandated by E.O. No. 413 datedJuly 19, 1990. It aimed to simplify and rationalize the tariff structure byreducing the number of tariff levels from seven to four and narrowing the tariffband from zero to 50 percent to three to 30 percent. This would have affected65 percent of total tariff lines including those in agriculture, chemicals,textiles, paper, wood and leather products, metals and non-metals, and machineryand equipment. However, serious concerns raised by various sectors includingCongress prompted the Aquino government to defer its implementation until furtherconsultations could be held and appropriate modifications made.

4 Public Investments

4.1 Background. Due to revenue constraints and limited access to externalfinancing, public investments fell from 7.7 percent of GNP in 1983 to 3.7 percentin 1985 and 3.0 percent in 1986. The energy, transportation and water supply

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crises in the late 1980's had origins in these reductions. Thus, it wasrecognized that economic recovery cannot be sustained without substantialincreases in public investments.

4.2 Medium Term Public Investment Program (MTPIP). The MTPIP for 1987-1992envisioned a public sector investment rate of 5 to 6 percent of GNP annually.Financial constraints, institutional weaknesses and natural disasters combinedto limit public investments to just 3.5 percent of GNP in 1987, 3.1 percent in1988 and 4.1 percent in 1989 (see Table 7). It was only in 1990 that the 5.5percent share fell within the target range.

4.3 The MTPIP is updated every year to reflect changes in sectoral priorities,developments in the macroeconomic environment and improvements in the absorptivecapacity of the government to finance and implement projects. Shifts in emphasisfrom the industrial sector to agriculture and rural development includingirrigation as well as to social sectors such as education and health have beenobserved. To accelerate project development and implementation under the MTPIP,various administrative improvemeits and institutional support measures were putin place. These measures have been geared more towards improvement of themanagerial capabilities of implementing agencies and coordination among oversightagencies rather than the unnecessary relaxation of project selection criteria andproject implementation controls.

4.4 Maintenance and Other Operating Expenses (M&OOE). In order to ensure theprovision of support facilities and maintenance expenditures necessary tomaximize benefits from existing facilities, the ERL called for M&OOE for theeconomic and social sectors to recover their 1982 real level of P12.4 billion.Table 8 shows that at no time during the loan period was this level achieved.However, it can be observed that M&OOE expenditures did grow rapidly over theperiod to reach the 1983 level of P10.5 billion. From P7.7 billion in 1986, itincreased to P9.0 billion in 1987, P9.3 billion in 1988 and P10.7 billion in1989. This was largely a result of increased funding for the repair andmaintenance of infrastructure facilities.

4.5 In late 1990, a program of fiscal prudence was put in place. With theexception of outlays alloted for the maintenance of hospitals, roads, bridges,schools, and flood control facilities, maintenance and operating expenditures for1990 remained close to 1989 real levels, growing only by a marginal 17 percentfrom 1989 nominal levels.

4.6 Monitoring System. Implementation of the MTPIP is monitored on a quarterlybasis by the National Economic and Development Authority. With the establishmentof a computerized data base system in 1987, the scope of quantitative monitoringhas been expanded to include non- infrastructure components of the program.Likewise, the timeliness of reports on the financial status and physicalaccomplishments of individual projects has been improved. The ProjectFacilitation Committee was also organized in 1987 to monitor the implementationof foreign-assisted projects and help resolve bottlenecks at both policy andprocedural levels.

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5 Government Financial Institutions

5.1 Background. By end-1985, the two major government financial institutions(GFIs), the Philippine National Bank (PNB) and Development Bank of thePhilippines (DBP), accounted for around half of total assets held by the bankingsystem. Moreover, about 70 percent of the combined loan portfolio of PNB and DBPwere non-performing and causing huge losses equivalent to almost three percentof GNP. To restore the financial viability of these two GEIs and to reduce theirpresence in the banking sector, the government initiated general policy reformsin the sector and supported rehabilitation programs for both PNB and DBP.

5.2 General Policy Reforms. The Monetary Board of the Central Bank, throughResolution No. 1077 dated November 28, 1986, issued revised policies with respectto the role of the financial system in general and government financialinstitutions in particular in fostering sustainable economic growth. It declaredthat the government would take the necessary actions to ensure that GFIs would,in the future: (1) have limited market share relative to the entire bankingsystem; (2) be financially viable and independent of government assistance;(3) be accorded equal treatment with private banks in terms of regulatoryrequirements; (4) borrow without national government guarantee except as maybe required by official foreign sources in connection with debt restructuring;(5) not have unlimited access to public sector deposits, and be required tomaintain liquidity balances against these deposits; and (6) not have toadminister subsidized government credit programs from their own resources.

5.3 External Audits. Contingent Liabilities and Government Deposits. Toenhance performance monitoring and increase accountability of GFIs by means ofexternal audits, CB Circular No. 1124 dated December 5, 1986 requires each bankto submit to an annual financial audit to be conducted by an independent externalauditor. CB Circular No. 1123 dated December 5, 1986 on the determination of thesingle borrower's loan limit under Section 23, R.A. 337 provides for theinclusion of the outstanding foreign and domestic standby and deferred lettersof credit less marginal deposits and outstanding guarantees except those fullysecured by cash, hold-out in deposits or government securities. CB circular No.1121 dated November 14, 1986 limits government deposits at government depositorybanks to working balances. A 75 percent liquidity ratio in cash and governmentsecurities against government deposits is to be maintained.

5.4 Rehabilitation of PNB. To restore the financial viability of the PNB andits ability to contribute to economic recovery particularly in the countryside,the PNB underwent a two-year rehabilitation program that included policyredirection, transfer of non-performing assets to the national government andinstitutional strengthening.

5.5 Charter Revision. The Revised Charter of the PNB is embodied in E.O. No.80 dated December 3, 1986. It was intended to serve as the basis for theoperations of a reorganized and rehabilitated, smaller but stronger and moreoperationally viable bank. It tightened controls and safeguards to avoid arepetition of the past accumulation of mandated and non-performing accounts.More specifically, it provided that directors, officers and employees of PNB or

any corporation or partnership wherein any PNB director, officer or employeeand/or their relatives within the second degree of consanguinity or affinity is

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an official or controlling shareholder are prohibited from borrowing from PNB,either directly or indirectly as representative or agent of others. Theprohibition also applies to officers and personnel of agencies directlyexercising regulatory authority over the FNB such as the Central Bank andCommission on Audit. In addition, the Revised Charter also states that the PNBshall "provide banking services for the development of agriculture and small andmedium scale enterprises particularly in the countryside" but "within the contextof a financially viable and stable banking institution".

5.6 Policy Statement. The PNB also adopted a policy statement to provide clearguidelines for the operation of the bank in accordance with the new emphasis oncommercial viability and financial independence from the national government.The policies enunciated included the following: (1) interest rate policiesshall ensure positive spreads and consistency with interest rates prevailing inthe market; (2) loans are to be made on the basis of viability assessment; (3)uncovered foreign exchange risks are to be avoided and a favorable foreignexchange position maintained; (4) lending in support of government programs forsocial purposes is to be undertaken only if funds are specifically provided bythe government and treated of f books; (5) private deposits are to be activelysought to reduce dependence on government deposits; and (6) public offering ofshares is to be initiated by early 1989.

5.7 Transfer of Assets and Liabilities. To attain and maintain commercialviability and at the same time, support the economic priorities and programs ofthe government, it was agreed that the PNB must be allowed to start anew with ahealthy balance sheet. Thus, an essential component of the rehabilitation planwas the transfer to the national government of P47 billion of non-performingassets (NPAs), P55 billion of liabilities including government deposits andforeign borrowings and P16.7 billion of contingent liabilities. The transfersreduced PNB's total assets from P76.1 billion in 1985 to P26.9 billion in 1986and its capital accoints to the desired level of P2.5 billion.

5.8 Cost Reduction. Another important component of the rehabilitation plan wascost reduction through leaner staffing and streamlining of the branch network.

By the end of the rehabilitation program in 1988, 2,002 personnel or 3.1 percentof the workforce had been separated from the bank. The resulting PNB personnelcomplement compared favorably to those in the private sector in relation to totalassets, loans and deposits. Rationalization of the bank's domestic and overseasbranch network also led to the abolition of ten regional offices and nineoverseas offices and divestment of lending functions from 25 I-ranch offices.

5.9 Institutional Strengthening. To ensure PNB's overall operating efficiency,long-term viability and leading position in the commercial banking industry,major aspects of operational management and control were reviewed andreorganized. Credit control was strengthened by consolidation of head office

lending functions into one department, establishment of credit committees atvarious levels and adoption of an early warning system for problem loans.Financial management was strengthened by regular monitoring of and adherence tofinancial performance standards, integration of the planning and budgetingsystems and adoption of a performance recognition scheme based on unitprofitability. Operations management was improved with the automation of dataprocessing in all bank units including provincial branches and the reorganization

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and realignment of functions and units. Staff performance was improvea withrevision of the performance appraisal system and implementation of comprehensivetraining programs.

5.10 Financial Performance. The success of the PNB rehabilitation plan isattested to by the substantial improvement in the bank's financial performance.Total assets increased from P26.9 billion in 1986 to P38.8 billion in 1988 (seeTable 9), way above the P32 billion projected under the rehabilitation plan. Netprofits of P1.01 billion in 1987 and P1.85 billion in 1988 also excaededprojected levels of P30 million and P185 million, respectively. As a result ofthis unprecedented profit performance, the bank's capital accounts reached P5.01billion in 1988, way above the projected level of P2.74 billion. In addition,PNB showed dramatic improvements with respect to certain financial indicators oncapital adequacy, liquidity, funds sourcing, asset quality and earningsperformance. Table 10 shows that PNB has stayed well within the target levelsagreed with the World Bank under the ERL.

5.11 Savings Mobilization. The renewed strength and financial viability of thePNB enabled it to contribute to the developmental efforts of the nationalgovernment particularly in domestic resource mobilization and expansion of creditservices. PNB's total deporits more than doubled from P18.93 billion as ofend-1987 to P45.4 billion as of end-1990, representing an average annual growthrate of 34.6 percent. The bigger part of this growth was accounted for byprivate deposits which grew threefold from P11.3 billion in 1987 to P29.5 billionin 1990. PNB's share in the total deposits of the commercial banking systemsteadily grew from 12 percent in 1987 to 15 percent in 1990. More significantly,deposits generated by the bank's countryside network grew at an annual averagerate of 32 percent during the period, accounting for more than 50 percent oftotal private deposits and one-sixth of the total deposits generated in thecountryside.

5.12 Lending Activities. PNB also contributed to economic recovery and growthby the provision of increased credit to productive sectors, especially those inthe countryside. PNB's loan portfolio of P29.4 billion at end-1990 was almostthree times the end-1987 level of P10.3 billion, representing an annual averagegrowth rate of 42 percent. Its share in the total outstanding loans of theentire commercial banking system steadily increased from 9.5 percent in 1987 to14.2 percent in 1990. The proportion of countryside loans in PNB's loanportfolio averaged 22 percent in 1987-1990, substantially higher than the 16percent ratio prevailing in the rest of the commercial banking system. Inaddition, PNB provides financing under liberal terms to small and medium-scaleenterprises and has specialized credit programs for those using indigenousinputs, those affected by the July 16, 1990 earthquake, small exporters andmarket vendors.

5.13 Public Stock Offerina. The bank undertook in mid-1989 a public offeringof 30 percent of its outstanding shares of stock then held by the government.The offering resulted in 25,912 approved applications which made PNB the localbank with the widest ownership base. The share offering contributedsignificantly to the development of the country's equities market. In just twomonths after its listing in the stock exchanges, PNB shares added about P4.7billion to total market capitalization.

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5.14 Rehabilitation of DBP. The Revised Charter of the CBP embodied in E.O. No.81 dated December 3, 1986 leys the groundwork for the rehabilitation program forDBP. Like the PNB, the DBP was allowed to start operations under the RevisedCharter on a viable basis through the transfer of non- performing assets andliabilities. To carry out its primary objective of providing medium andlong-term financing to the private sector, the DBP was to evolve into primarilya wholesale bank, channeling funds to other financial institutions for on-lendingto private business enterprises. Consistent with the emphasis on financialviability and independence, DBP's operations were to be guided by the following

policy directions: (1) DBP shall submit to the test of financial viability to

ensure sound capital structure, generation of sufficient earnings to cover costsand earn a profit margin, build-up of appropriate reserves, and protection of itsequity base; (2) DBP shall compete in the market and operate on an equal footingwith its private sector counterparts; (3) public sector lending shall be avoided;(4) interest rates shall be guided by full recovery of all costs and consistencywith those prevailing in the market; (5) exposure to a single client shall be

limited to 15 percent of DBP's unimpaired capital and surplus and total equity

investment in any single company shall be limited to 15 percent of DBP's owntotal equity; and (6) DBP shall conduct lending activities in support ofgovernment programs only if funds are specifically provided, DBP is appropriatelycompensated, and such lending is treated off books.

5.15 Transfer of Assets and Liabilities. As with PNB, non- performing assetsamounting to P61.4 B and liabilities amounting to P62.2 billion were transferredfrom DBP to the national government in 1986. Total assets of DBP were thusreduced from P72 billion in 1985 to P9.5 billion in 1986. Total assets of DBPwere thus reduced from P72 billion in 1985 to P9.5 billion in 1986.

5.16 Cost Reduction. Bank costs have been substantially reduced through branchnetwork reorganizatioin and staff retrenchment. The branch network reorganizationinvolved the assignment of well-trained senior officers to oversee branchoperations. A retirement program produced a leaner, more flexible organization

that could respond more promptly to the financial needs of its clientele.

5.17 Institutional Strengthening. A key organizational reform was the limitationof the role of directors to policy-making, with the exception of the Chairman andthe Vice-chairman who are the Chief Executive Officer and Chief Operating Officerof the bank, respectively. The job of managing units, departments, and bankinggroups has been entrusted to a corps of professional managers. The credit reviewprocess was also upgraded through the introduction of the Risk Asset ManagementManual, a standard credit evaluation tool of private banks. An extensive stafftraining and value formation program was also institutionalized to make DBPpersonnel not only competent bankers but also effective agents of change anddevelopment.

5.18 Financial Performance. DBP's rehabilitation program succeeded inrestoring its financial viability. Total assets increased from P9.5 billion in

1986 to P11.4 billion in 1988 (see Table 11). Net income improved dramaticallyfrom a net loss of P5.64 billion in 1985 and 1986 to a net profit of P1.65billion in 1988. In addition, substantial improvements with respect to keyfinancial performance indicators were achieved (see Table 12).

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5.19 Savings Mobilization. Both as a bank and as a development institution, theDBP has endeavored to promote the savings habit and generate deposits especiallyin the countryside. Between 1986 and 1990, DBP's deposits increased ten-foldfrom PO.5 billion to P5.1 billion. The bank has also participated in thedevelopment of the capital market by designing and marketing special bonds suchas the Cebu Equity Bond Units (CEBUs) ana the Tulong sa Bayan Bonds intended tofund reconstruction efforts following the July 15, 1990 earthquake.

5.20 Lending Activities. While increasing its retail lending from P5.2 billionin 1986 to P7.8 billion in end-1990, the DRP also embarked on its wholesalelending operations primarily through the onlending of long-term funds sourcedfrom international financial institutions such as the Bank. The $65 millionIndustrial Investment Credit Project funded by the Bank was the DBP's firstwholesale facility. It was fully committed within three months from date ofeffectivity of the Bank loan. The administration of the APEX credit facility andthe Industrial Guarantee Loan Fund (IGLF) were transferred from the Central Bankto the DBP in 1990. As of end-1990, 53 private financial institutions had beenaccredited to serve as retail outlets for DBP's wholesale funds. As a result,DBP has become a valuable source of medium to long term financing foragricultural and industrial enterprises. Through the bank's special developmentlending window, it also meets the special credit needs of farmers' cooperatives,irrigation service associations, jeepney drivers cooperatives and exportersassociations.

5.21 Disposition of Non-Performing Assets (NPAs). The disposition of the NPAstransferred from PNB and DBP to the national government was made part of thegovernment's privatization program. Proclamation No. 50 dated December 8, 1986established the Committee on Privatization (COP) to oversee the program. The COPis composed of the Secretary of Finance (Chairman), Secretary of Budget andManagement, Secretary of Justice, Secretary of Trade and Industry and theDirector General of the National Economic and Development Authority. While theCOP formulates policy guidelines and approves sales, actual marketing is done bydesignated diaposition entities such as the Asset Privatization Trust (APT). TheAPT was also established under Proclamation No. 50 to dispose of the NPAstransferred from PNB and DBP as well as certain government corporations earmarkedfor privatization. Of the 399 non-performing accounts lodged in the APT fordisposition, 230 had been fully or partially sold as of end-December 1990.Included is Nonoc Mining and Industrial Corporation, APT's biggest account, whichwas sold for $325 million on October 12, 1990.

5.22 Divestment of Six Government Acquired Banks. Of the six banks that cameunder the control of the Central Bank, Commercial Bank of Manila and PilipinasBank had been fully sold as of end-December 1990 while Union Bank andInternational Corporate Bank had been partially sold. Republic Planters Bank isto be privatized by end-December 1991. Legal entanglements continue to stand inthe way of privatization of Associated Bank.

5.23 Other GFIs. Studies on the social security institutions, Social SecuritySystem (SSS) and Government Service Insurance System (GSIS), and two other GFIs,Land Bank of the Philippines (LBP) and Philippine Export and Foreign LoanGuarantee Corporation (Philguarantee), were originally planned to be funded outof the $10 million ERTAP. However, in view of the objection raised by the

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Commission on Audit to the loan funding for the studies, alternative ways ofconducting the studies were adopted. The Department of Finance undertook thestudies on the SSS and GSIS while the Central Bank did the study on the LBP. ThePhilguarantes study was contracted out by the Bank under separate grant funding.The report recommended the designation of Philguarantee as the national exportcredit agency and its institutional strengthening to enable it to carry out itsnew role. A corporate plan, pre-shipment export credit guarantee program andorganizational development and manpower training program were also prepared forpresentation to the Philguarantee Board.

6. Overall Assessment.

6.1 Macroeconomic Performance. During the implementation period of the ERL,the Philippine economy did recover and grow quite substantially. After twosuccessive years of economic contraction, gross national product (GNP) in real

terms grew by 4.2 percent in 1986, 5.1 percent in 1987, 7.2 percent in 1988 and

5.7 percent in 1989 (see Table 13). This growth was induced by strong recoveryin investment activities together with sustained increase in consumption. Gross

domestic capital formation increased by an average of 17.6 percent during theperiod 1987-1989. Total investments grew from P123.186 billion or 18.3 percentof nominal GNP in 1987 to P202.113 billion or 22.1 percent of GNP in 1989. Thebulk of the investments were made by the private sector reflecting greaterbusiness confidence and high capacity utilization rates. After virtuallystagnating in 1984-1986, personal consumption increased by an average of 5.06percent in real terms in 1987- 1989 (See Table 14).

6.2 Average annual inflation rates were kept at single-digit levels between

1986 to 1988, although increasing from year to year. Owing mainly to pressuresfrom the expansion in domestic demand induced by higher incomes and the shortagesin agricultural products due to weather disturbances, the average annualinflation increased from 0.8 percent in 1986 to 3.8 percent in 1987 and furtherto 8.8 percent in 1988.

6.3 However, towards the end of the ERL period, in 1989 and 1990,macroeconomic imbalances began to emerge. The Philippine economy continued togrow in 1990 but at a decelerated pace of 4.2 percent. Inflation rose from 10.6percent in 1989 to 12.7 percent in 1990. While significant structural reformshad been put in place, they were not able to completely offset the negativeeffects of an unsettled political situation, a series of natural calamities,including the July 16, 1990 earthquake, and the slowdown of the global economycompounded by the outbreak of the Gulf crisis.

6.4 Budget and BOP Effects of Loan Proceeds. The ERL disbursements

considerably strengthened the non-monetary capital account of the balance ofpayments (BOP). Inflows from the World Bank and Japan Exim Bank cofinancingloans amounted to $249 million in 1987, $201 million in 1988, $147 million in1989 and $3 million in 1990 and increased medium and long-term loan inflows byover $600 million in 1987-1990. With interest payments on the loans estimatedat $116 million for the same period, net balance of payments impact of the loansamounted to $484 million during the period.

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6.5 Similarly, peso proceeds from the loans amounting to P12.75 billion duringthe period 1987-1990 helped reduce recourse to more expensive and shorter-termdomestic borrowings. This resulted in savings in domestic interest paymentswhich more than offset the interest payments on the foreign loans. Furthermore,the loans mitigated further increase in domestic interest rates that would haveresulted from the higher levels of domestic borrowings required in the absenceof such external funding support.

6.6 Macro Effects of Reform Measures. The reform measures supported by the ERLzontributed to the attainment of economic recovery in the period 1987-1989 boththrough their direct and indirect effects on real GNP growth. The tax reformpackage which included the abolition of export taxes removed disincentives toexports in particular and production in general and at the same time, laid thegroundwork for increased tax collections. Higher tax revenues during the period1987-1989 helped to keep the national government deficit within manageable levelsand thereby create a low-interest rate, low-inflation rate macroeconomicenvironment conducive for local and foreign investments as well as personalconsumption spending. As indicated above, the additional inflow of ERL-relatedexternal financing of the national government deficit further reinforced thedecline in interest rates as represented by Treasury bill rates (see Table 13).

6.7 The revitalization of public investments spurred economic growth directlyas well as through multiplier effects on private investments and consumerspending. Through their rehabilitation and renewed financial viability, the PNBand DBP were able to also contribute to economic recovery, eapecially in thecountryside, through their intensified savings mobilization efforts and expandedlending activities to private agricultural and industrial enterprises. While theimport liberalization program led to a temporary worsening of the current accountof the BOP, it stimulated economic activity and paved the way for higher exportgrowth by facUitating and lowering the cost of entry of imported raw materialsand capital goods needed for the domestic production of locally consumed andexportable goods.

6.8 From the foregoing, it can be observed that the Aquino government waslargely successful in implementing the economic recovery program that it drew upupon its assumption of office in 1986 and that these reform measures contributedto the economic recovery achieved in 1987-1989. Although another economic crisisloomed in 1990, the gains achieved under the 1987-1989 economic recovery programcannot be erased and may be counted upon to help the economy cope with internalmacroeconomic imbalances, political uncertainties and natural disasters as wellas an unfavorable external environment through a more efficient tax system, morecompetitive exports, revitalized public investments and more responsivegovernment financial institutions.

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TabeL1: ECONOMIC RECOVERY PROGRAM POLICY MATRIX Page 1 of 5

icy Reforma/Required Action First Tranche Second Tranche Third Tranche

Fiscal Reforms

1. PubLic Expenditures

a. Public Investment Agreement an Lovet and ConsuLtation an program Coutatfon on programProgram composition for 1987- with Sank; Imptements- with Bank; Imptementation

1989 program. tion as agreed. as agreed.

b. Operation and Agreement to maintain at ImpLementation. Implementation.maintenance Least 1982 real tevet.expenditures

c. Monitoring system for Agreement to estabtish a ImpLementation. ImpL~tatIon.public investment. system to monitor

physicaL and financialaccompt ishments.

2. Tax Reforms Impementation. Implementation.

a. Agreement on program Executive Orders issuedof tax reform for for 26 mansures.1986.

b. Introduction of vaLue- Agreement to undertake Corpletion of Introduction of VAT.added tax. studies and/or use of preparation activities.

technical. assistance.

c. Further improvements Agree to undertake Completion of studies. Implementation based onto personal income studies on: studies.tax, corporationincome tax, property - rationalization oftax and fiscal capitaL gains tax;incentives. - introduction of

aifationt adjustmentfor depreciation;

A rationaLioation of taxincentives;

- possibl inctusion ofinterest income ingrobatized Income tax;and

- property taxation.

Trade Reforms

1. Raise all tariffs at 0% Completed CEO No. 70.25and 5% to at Least 1M. Noveober 1986)

2. Undertake further tariff Agree to develop program CompLeto studies. Hold hearings and ueourereform to Lower protection of studies. new tariff sree program.levols end overaLl tariffratsi.

3. Complete on-going trade Now schedule announaced Lfberelzod agreed Liberalize remaining Itemliberalization program. for 299 Items (Ceontral Item by ApriL 30o 19f6.

Bank Circutaor No. 112and 1128 of January 9t1987).

- 84 -

Table 1 (cont'd) Page 2 of 5

Policy ReforaVRequired Action First Tranche Second Tranche Third Trenche

4. Review of remaining Agree to review. Complete review; Start implementation.restricted item. announce scheIule.


1. General Polieies

a. Overall policystatement on Policy statementgovernment role in approved by the Monetaryfinancial system. Board (M Res. No. 1077,

November 28, 1986),

b. Monetary Board External audit for GFIsResolution on external approved by the Monetaryaudit for GFIs. Board (CS Circular No.

1124, December 5, 1986).

c. Nonetary Board Approved by the MonetaryResolution on Board (CS Circular No.Contingent LiabiLities 1123, December 5, 1986).

2. qehabi(Itation of DBP andPNB

a. 08P

f) Revised charter E No. 81 dated Deceaber3, 1986 issued by thePresident revisingcharter of DSP.

if) Policy Statement Policy statementapproved by DSP Boardand Monetary Board onDecember 23, 1986.

Iif) External Audits Selection of external Preparation of 1986 Preparation of 1987 audit.auditors. audit.

iv) Rehabilitation Rehabilitation Programprogram approved by MB and 08P

Board on December 23,1986.

Transfer of non* Movement off books of Transfer/assignment ofperforming 08P. legal title forassets (Over P10 designated asets/N) and desig* Liabilities.noted tiabit*itfes.

- 85 -


Policy Reform/Required Action First Trenche Second Tranche Third Tranche

- Cost redluction Program agreed. Implemntation. Iptementation.program includ-Ing branch net-work reorgani za-tion and staffretrenchment.

* Internal re- Agreement an Action planorganization and and on use of technicalstrengthening of assistance.Internal cont-rols, policies,procedures andsystem.

* Performnce Agreement on indicators laptementation. Implementation.indicators and reporting to the

World Bank on semi-annual basis.

b. PN

I) Revised charter EO No. So dated Dtcember3, 1986 issued by thePresident revisingcharter of PN.

if) Policy Statement Policy statementapproved by PN6 Boardand Monetary Board onDeceaber 23, 1986.

III) External Audits Selection of external Preparation of 1986 Preparation of 1987 audit.auditors. audit.

fv) Rehabilitation Rehabitftation Progrmprogram approved by M and PHI

Board on December 23.1986.

- Transfer of non- Movement off books of Transfer"assigrsont ofperforming PNB. legal title forassets (Over P10 designated asets/N) and desig- tiabilities.nated Liabtl-fties.

Minin targets agreed. Sumission of final Implamentation.- Cost reduction branch reduction

program includ- program by June 30,ing branch net- 1987.work reorganixa-tion and staffretrenchment.

- 86 -


Policy Reform/Required Action First Tranche Second Tranche Third Travhe

Internal re* Agrement on Action plan tlemeantation. laitementation.organization and and use of technicalstrengthening of assistanwe.internal cont*rots, proceduresand system.

Performance Agreement on indicators Iplementation. Implementation.indicators and reporting to the

World Bank on semi-anual basis.

3. Disposition of non-performing accounts (NPAs)

a. Establishment of thecognittee on Privati- Proclamtion No. Solation (COP) and Asset issued by the PresidentPrivatization Trvst. on Deceaber 8, 1986 and

Proclamation No. SA onDeceaber 15, 1986establishing the COP andAPT, respectively.

b. Appointment of Trustees appointed.Trustes for APT.

c. Specification of Agreemant in substance. Adopted by March 31, Iptementation.general APT operating 1987.guidelines, includingdisposition policies.Specification oninterir liability andasset Managemntarrangements.

d. Classification and Approval of lists by Transfer/assigment oftransfer of NPA to Goverment and movement Legal title of APT ofthe Government. off betance sheets of designated assets.

PNB and 04P.

e. Elaboration of Approval by March 31, laplemntation.detailed operating 1987.featurer of APT.

* Organization andstaffing

* disposal program- brdget

f. Disposition of assets Iplementation. Implementation.

4. Divestment of six Completed.Goverment-acquired banks

- 87 -


Poticy Reform/Requrd Action Firat Tranche Second Tranche Third Tranche

5. Adption of petcy Appoved by 4S (C aptementation.Limiting Givrnmnt Circutar No. 1121 ofdeposits at Lkvermnt Novler 14, 1986).dpository nks toworking batcneca, and theestablishment of lquidItyrq remmnts.

6. Studies of 018/33. LP Draft term of reference Agreemnt by Narch 31, C~plete studles.and PhiLguarantee. propeed and discussed. 1987 of finat TOR for

studies; studiesinitiated.

7. Perform~nce mnitoring of Designötfon of QCNCC to Attach~ent of PN and laptmentation.0aP and PHB. onitor PNB and DBP. DP transferred from

NEDA to the Dept. ofFinance; smi-vnutmonitoring by GCNCCbased on approvedperforance fndicat-å.

- 88 -

Table 2STATUS OF THE 1986 TAX RFORK PACKAGE Page 1 of 3

S-------------------------------------- --------------------------Measures Executive Signing Date of Remarks

Order No. Date Effectivity-------------------------- ----------------- ----------------- --------------------------

A. INCOME TA(ES

Individual

1. Change from schedular to 37 July 31, 1986 January 1, 1986global income tax

2. Uniform rate structure of -do- -do- -do-0 - 35% on all incomeincluding business income

3. Prescribe celling on -do- -do- -do- Not implemented.allowable deductions

4. Raise personal exemptions -do- -do- -do-to avoid taxing incomesbelow the poverty line

5. Separate taxation of -do- -do- -do-incomes of married couples

Corporate

6. Unifbrm tax rate of 351 -do- -do- July 1, 1986

7. Prescribe ceilings on -do- -do- -do- Not implemented.allowable deductions

8. Exeapt latercorporate -do- -do- August 1, 1986dividends

Individual/Corporate

9. Uniform final tax of 201 -do- -do- -do-on interest, dividends,royalties and otberpassive income

8. MOTOR VIICLI TAI

10. Rationalize registration 43 August 22, 1988 January 1, 1987fees

Table 2 (cont'd) - 89 - Page 2 of 3

Heasiares Executive Signing Date of RemarksOrder No. Date Effectivity

C. INDIRECT TAXES

Sales Txes

11. Reduce rates to three 36 July 30, 1986 August 1, 1984levels

12. Remove unnecessary tax 36 -do- -do-exemptions

13. Disallow tax credits or 36. -do- -do-inputs if output is nottaxed

14. Phase-out turnover tax and 273 July 25, 1987 January 1, 1988replace with value-addedtax

Excise Taxes

5. Convert all taxes to ad 22 June 25, 1986 July 1, 1986valores taxes and increasetaxes on cigarettes andbeer

16. Levy 5-20% excise duty on 36 July 30, 1986 August 1, 1988motor vehicles as salestaxes are lowered

D. REAL PROPERTY TAX

17. Adjust 1978-based taxable 73 November 25, 1986 November 25, 1986 Suspended by Hesoranduvalues to 1984 Order No. 77 until June 30,

1987

1. TRAVEL TAX

18. Exempt contract workers 25 July 1, 1986 July 1, 1986

1. IIO1RT DUTIES

19. Abolish all export duties 26 July 1, 1986 July 1, 1986except on logs

0. CUSTMHS DUTIlS

20. Impose Maii 10 duty 70 November 25, 1988 November 25, 1986oa iaports

Table 2 (cont'd) - 90 - Page 3 of 3

easures huentive Signing Date of RemarksOrder No. Date Iffectivity

a. GENERAL AND ADMIISTATIVI

Special funds

21. Rationalise tax treatment Not legislated.of all gambling activities

22. Bring casino, travel and Not legislated.other foods into theGeneral Fand

heaptions and Incentives

2?. Withdraw all tas and duty 93 December 17, 1986 March 10, 1987incentives and replacewith subsidies

24. Impose uniform franchise 72 November 25, 1986 November 25, 1988tu and withdrav incometax exemptions

Amnesties

25. Anesty on income and 41 August 22, 198$ August 22. 1986other Internal revenuetaxesAmending 10 41 54 November 4, 1988 November 4, 1986Further Aneding 10 41 64 November 7, 1986 November 7, 1986Further Amending 10 41 95 December 17, 1986 December 17, 1986

26. Amnesty on real property 42 August 22, 1986 August 22, 1988tuAmending 10 42 104 December 24, 1986 January 1, 1987

27. Tax anesty on registra- Not legislatedtion of foreign assets

Administrative leasures

28. Compromise agreement ondisputed assesents anddelisquest accouts

IS 44 September 4, 1988 September 4, 1988B0C 38 Augst 6, 1988 August 6, 1986

29. Raise BI Incetives 45 September 4, 1986 September 4, 1986

Source: National Tax Rasereb Center

- 91 -

Table 3 RMS908 IMPACT 01 1986 TAI UFO PACIAGI, 1966 - 1988(in million Pesos) Page 1 of 3

Measures Original Actual Revenueslstimates 1/ 1988 1987 1027 2/

T 0 TAL 8393 242 7292 11202

A. INCOME TAUS 230 125 -983 -1040

-1310 -382 -1735 -1976Individual

1. Change from schedular to)global income t )

-540 0 -8 -7032. Uniform rate structure of)

0 - 351 on all incoe)including business income)

3. Prescribe ceilings on 200 0 0 0allowable deductions

4. Raise personal exemptions *410 -182 -491 -540to avoid taxing Incomesbelow the poverty line

5. Separate taxation of -560 -200 8868 -733incomes zf married couples

Corporate 1140 111 576 636

6. Uniform tax rate of 35% 500 125 592 666

7. Prescribe ceilings on 670 0 0 0allowable deductions

8. Iempt intercorporate -30 -14 -16 -30dividends

Individual/Corporate 400 396 236 300

9. Uniform 'final' tax of 400 396 238 300201 on Interest, dividends,royalties and other passiveincome

B. MOTOR VWICLI TAI

10. Rationalise registration 0 0 0 0fees

- 92 -


Heasuree Original Actual RevenuesEstinates 1/ 1986 1987 1988 2/

C. INDIRECT TABS 3290 1343 2789 3765

Sales Taxes 0 0 0 2500

11. Reduce rates to three 0 0 0 0levels

12. Remove unnecessary tax 0 0 0 0eeuptions

13. Disallow tax credits on 0 0 0 0inputs if output is nottaxed

14. Phase-out turnover tax and 0 0 0 2500replace with value-addedtax

Excise Taxes 3290 1343 2789 1265

15. Convert all taxes to ad ) 2540 943 1783 542valores taxes and lncrease ) 750 400 1006 723tues on ciganttes and )beer

16. Levy 5-201 excise duty on 0 0 0 0motor vehicles as salestaxes are lowered

D. REAL PROPERT TAI

3/ 3/17. Adjust 1978-based taxable 71 0 71 71

value to 1984

I. TlAVlL TAI

18. Exempt costract workers -100 -51 -100 -100

F. c1ORT N0TIES

19. Abolish all export datiesexcept a los -1060 -319 0 0

a. cOSOII tiIs

20. Ime uialm 105 duty 150 0 252 150oa Isports

- 93 -


measures Original Actual Revenuesstimates 1/ 1986 1987 1988 2/

H. GENERAL AND ADMINISTRATIVE 5812 1364 5263 8356

Special Funds 0 0 0 0

21. Rationalize tax treatment 0 0 0 0of all gambling activities

22. Bring casino, travel and 0 0 0 0other funds into theGeneral Fund

Exemptions and Incentives 180 0 1029 4380

23. Vithdraw all tax and duty no estimate 0 924 4200incentives and replacewith subsidies

24. Imposes uniform francbise 180 0 105 180tax and withdraw incosetax exemptions

Amnesties 1262 1297 552 104

25. Amnesty on income and 1040 1010 356 0other internal revenuetaxes

26. Amnesty on real property 222 287 196 104tax

27. Tax amnesty on registra- so estimate 0 0 0tion of foreign assets

Administrative Ieasures 4370 67 3682 3872

28. Compromise agreement on 1070 67 242 0disputed assessments anddelisquent accounts

29. Raise BI Incentives 3300 0 3440 3872

1/ atintes of full year revenue impact as of June 29, 1986.2/ Revenues for 1988 are as submitted to Congress.3/ In the absence of actual data, program levels were assumed to

approximaste actual collections.

Source: National Tax lesearch Center

IATIGOAL GOVIMNEIT MIOUIS, 1980 - 1990(øn million Pesos)

1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990

TAK IEUIIUU 30,836 31,974 34,910 40.227 53,379 61.432 66,911 87,124 91,464 124,509 155,309

(g of 0P) 11.66 10.53 9.82 10.62 10.12 10.28 10.89 12.39 11.12 12.94 13.11

Direct Tales 7,619 9,050 9.593 10,073 14,984 19,332 21.065 23,562 29,857 40,032 51,873

(1 of CUP) 2.88 2.98 2.70 2.66 2.84 3.23 3.43 3.35 3.63 4.16 4.58

lacoe Tues 7,172 8,023 8,515 8,869 13,714 17,656 19,381 21,840 27,650 37,464 49,471

Other Direct Tles 447 1,027 1,078 1,204 1,270 1.676 1,704 1,722 2,207 2,568 2,402

ladirect Tales 23,217 22,924 25,317 30,154 38.395 42.100 45.846 63.562 61,607 84,477 103,436

(s of OP) 8.78 7.55 7.12 7.96 7.28 7.04 7.46 9.04 7.49 8.78 9.13

bxcise Tales 4.911 5,268 5,969 6,660 9,926 13,550 16,696 23,098 20,248 25,005 29,070

License aid Basinen Tues 7,672 7,586 7,967 8,308 9,247 9,936 12,376 18,681 17,829 24,612 31,847

loport Deties and Taes 7,601 7,432 8,647 12,219 14,419 13,694 13,191 18,130 17,762 28,306 33,899

Other ladireet Tales 3,033 2,638 2,734 2,967 4,803 4,920 3,583 3,653 5,768 6,554 8,620

tl-TUl OIUUS 4,198 4,510 4,426 6,108 6,856 7.771 13,706 17,291 22,541 29,948 29,098

(t of OP) 1.59 1.49 1.25 1.61 1.30 1.30 2.23 2.46 2.74 3.11 2.57

TOTAL IlINIIS 35,034 36,484 39,336 46,335 60,235 69,203 80,617 104,415 114,005 154,457 184,407

(I øf OP) 13.24 12.02 11.07 12.23 11.42 11.58 13.11 14.85 13.85 16.06 16.20

Ns lIeo:lumial GP 264,532 303,628 355,435 378,744 527,355 597,743 614,703 703,361 822.870 961,914 1,132,404

Source: National Tu lesearch Center

- 95 -

Table 5IMPLERNTATION OF PHASE I AND PHASE II OF THE IMPORT LIBERALIZATION PROGRAM

As of June 30, 1990 Page 1 of 2

Iapleaenting Effectivity NumberCircular Date of Items

PHASE I CB Circular 1100 Apr. 30, 1986 140 A/-------- CB Circular 1105 Jun. 06, 1986 437

CB Circular 1109 Jul. 18, 1986 272CB Circular 1117 Sep. 20, 1986 80CB Circular 1128 Jan. 09, 1987 7CB Circular 1149 Jul. 01, 1987 12CB Circular 1150 Jul. 22, 1987 21CB Circular 1161 Nov. 01, 1987 73C8 Circular 1167 Dec. 24, 1987 58 B/CB Circular 1174 Apr. 25, 1988 129

TOTAL LIBERALIZED, PHASE I 1,229 C/

PHASE 11

A. List A Itess CB Circular 1192 Dec. 22, 1988 94 D/CB Circular 1210 Sep. 14, 1989 1 1/ 95

B. List 8 Ites CB Circular 1195 Mar. 15, 1989 3 1/CB Circular 1205 Jul. 14, 1989 60CB Circular 1210 Sep. 14, 1989 12CB Circular 1212 Oct. 06, 1989 17 0/CB Circular 1219 Dec. 31, 1989 39CB Circular 1231 Feb. 27, 1990 8 1/ 139

SUB-TVAL LIBERALIZED 234

TO BE LIBERALIZED 323

C. List C Item ReConeded 116for Contined leglation

TOTAL, PHASE II 673$P8

GWAD TOTAL (PHASE I AID PHASE II) 1,902

- 96 -

NOTES ON TABLE 5: Page 2 of 2

A/ EXCLUDES THREE (3) ITEMS UNDER POLYESTER STAPLE FIBER ANDFILAMENT YARN (266.52.01, 651.44.01 AND 651.45.01) WHICHWERE DELETED PURSUANT TO CB CIRCULAR NO. 110:3 DATED MAY 8.1986.

B/ EXCLUDES PAPERBOARD (641.22.01) SINCE IT WAS ALREADYCOUNTED UNDER THE ACCELERATED SCHEDULE OF CIRCULAR 1150DATED JULY 23, 1987.

C/ EXCLUDES THE THREE (3) ITEMS ON SUGAR UNDER HIGH TARIFFITEMS (061.11.00, 061.12.00 AND 061.19.00) WHICH WILLCONTINUE TO BE REGULATED PER AGREEMENT WITH THE IMF INJULY 1986.

D/ OUT OF A TOTAL OF 104 ITEMS SCHEDULED TO BE LIBERALIZEDSTARTING END-JUNE 1988 AND ENDING IN JUNE 1989, TWO (2)ITEMS FROM END-JUNE 1988 SCHEDULE -- EQUIPMENT FOR INDOORGAMES (894.24.03 AND ELECTRICITY SUPPLY METERS873.10.04 -- AND ONE (1) ITEM FROM END-DECEMBER 1988SCHEDULE -- GAME COCKS (001.49.06) -- WERE NOT YETLIBERALIZED PENDING TARIFF RATE ADJUSTMENTS. OUT OF TWENTY(20) COMMODITIES UNDER BRAND NEW TRUCKS AND ENGINESSCHEDULED FOR LIBERALIZATION BY END-JUNE 1989, THIRTEEN(13) WERE LIBERALIZED AHEAD OF SCHEDULE WHILE SEVEN (7)WERE RETAINED SINCE THESE COMMODITIES MAY BE PRODUCEDLOCALLY. THESE TEN (10) REMAINING ITEMS WERE INCLUDED INTHE FOUR HUNDRED SIXTY THREE (463) ITEMS UNDER LIST BE OFTHE MEMORANDUM OF ECONOMIC POLICY DATED 6 MARCH 1989.

E/ REFERS TO ELECTRICITY SUPPLY METERS (873.10.04) WHICHWAS ORIGINALLY INCLUDED IN THE LIST OF ONE HUNDRED FOUR(104) ITEMS UNDER LIST A.

F/ REFERS TO THREE (3) CEMENT PRODUCTS WHICH WERE LIBERALIZEDIN ADVANCE DUE TO THE PREVAILING ABNORMAL SUPPLY SITUATION.

G/ INCLUDES THE ADVANCED LIBERALIZATION OF TWO (2) CEMENTPRODUCTS WHICH FORM PART OF THE FORTY-FIVE (45) ITEMSSCHEDULED FOR END-DECEMBER 1989.

H/ UNDER THE REVISED CODE BASED ON THE HARMONIZED SYSTEMIMPLEMENTED IN 1990, FIFTEEN (15) COMMODITY LINES WERELIBERALIZED CORRESPONDING TO TWELVE (12) LINES UNDER THE1977 PSCC CODE. OF THE TWELVE (12) HOWEVER, ONLY TEN(10) LINES ARE INCLUDED IN LIST B. OF THESE TEN (10), TWO(2) ITEMS TO BE PART AND ACCESSORIES FOR TRACTORS (784.92.00)AND JEEP AXLES (784.97.00) TO BE LIBERALIZED UNDERCIRCULAR 1219, THUS THE COUNT WAS REDUCED TO EIGHT (8).

- 97 -

Table 6IMPORT VALUSS Of CONNODITIES LIBRALIZED UNDES PASE I AND PHASE II

OF TE IMPORT LIBIRALIZATION PROGRAM. 1985 - 1990(FOB Value In Billion US$)

No. ofItemas 1985 1986 1987 1988 1989 1990

1. LIBERALIZED COMMODITIESA. PHASE I (1986, 1987 & 1988) 1229 696 776 1142 1417 1912 1919

CAPITAL GOODS 4 -- -- -- -- -- --RAW MA TRIALS 789 562 739 1.032 1,315 1,793 1,783CONSUMR GOODS 438 134 37 50 102 119 136

B. PHASI 11 (1988, 1989 & 1990) 234 141 157 220 330 471 606

CAPITAL GOODS 188 139 152 206 315 445 549RAN UTRIALS 17 -- 1 8 6 14 42MINRALSUILS 2 -- -- 0 0 0 0CONSUM GOODS 25 2 4 6 9 12 15SPECIAL TRANSACTIONS 2 0 0 0 0 0 0

C. TOTAL, PHASE 1 & PHASI 11 1463 837 933 1382 174? 2383 2525

CAPITAL GOODS 192 139 152 206 315 445 549RAW HATRIALS 806 562 740 1100 1321 1807 1825MINMIAL FUILS 2 -- -- 0 0 0 0CONSUMR GOODS 461 136 41 56 111 131 151dICIAL TRAISACTIOIS 2 0 0 0 0 0 0

II. TOTAL IMPORTS 5111 5044 6737 8159 10419 12206

CAPITAL GOODS 769 839 1164 167 2424 3122RAN MATRIAS 2338 2821 3628 4415 5388 5808HINRML 1=S 1452 869 1249 1096 1397 1842CONSUR GOODS 320 273 391 597 898 1061SPECIAL TRAISCTIOIS 232 242 305 414 312 373

NO ITINS (AS PERCUTAGI 0 TOTA IMPORTS):

PASE I/TOTAL IMPORTS 13.6 1 15.4 1 17.0 1 17.4 1 18.4 1 15.7 1

PAS1 II/0TJ INPOVS 2.8 1 3.11 3.31 4.0 1 4.5 1 5.0 1

TOTM PHASE I & II/TOTU IMPOffS 16.4 Z 18.51 20.2 1 21.4 1 22.9 1 20.7 1

Ste: -- with value less tha $1 Million

Soaue: Central Bank of the Philippies

- 98 -

Table 7PUBLIC INVESTMENTS, 1980-1990

(In Billion Pesos)

14 Monitored Local Total PercentageYear National Government Government Public of Nominal

Government Corporations Units Sector GNP

1980 8.4 11.1 0.5 20.0 7.6

1981 12.7 13.9 0.6 27.2 9.0

1982 9.3 13.3 0.7 23.3 6.6

1983 10.4 18.1 0.8 29.3 7.7

1984 9.7 12.9 0.9 23.5 1.5

1985 8.8 12.4 0.8 22.0 3.7

1986 11.7 5.9 0.6 18.2 3.0

1987 14.7 8.3 1.5 24.5 3.5

1988 15.3 9.0 1.4 25.7 3.1

1989 20.9 14.9 1.8 37.6 4.1

1990 29.1 27.3 2.6 59.0 5.5

-----------------------------------------------------------------------------

Sources of Basic Data: National Economic and Development AuthorityDepartment of Budget and Management

Table 8REAL LIVELS OF KIPINDITURS Of TH NATIONAL GOVKNlNT, OBLIGATION BASIS, 1900 - 1990

(in Hillion Pesoe)

-------------------------------------------------------------------------------------------------------

1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990

-----------------------------------------------------------------------------------------------------

CURRENT OPERATING EIPMDITURIS 28,436 30,042 32,658 30,884 25,673 27,803 35,527 43,658 50,195 54,450 59,521

Personal Services 11,653 14,293 13,583 12,789 10,954 11,145 14,284 14,603 18,419 19,874 23,440Haintenance and Other Operating

Expensee 10,843 10,499 12,381 10,490 6,221 8,966 7,733 9,019 9,332 10,696 10,068Allotment to Local Government Unite 1,715 1,890 2,291 2,326 1,670 1,780 1,693 1,776 1,843 1,275 1,046Interest Payments 2,762 2,633 3,560 4,475 6,221 7,407 10,822 17,089 19,377 20,863 21,061Petroleum Price Standby Fund 0 0 0 0 0 0 0 0 0 0 1,608Subsidies 1,463 727 843 803 607 505 994 685 970 1,360 817Tax Expenditures 0 0 0 40 0 0 0 486 253 382 0

CAPITAL OUTLAYS 15,010 20,571 14,934 13,861 9,953 7,966 11,036 9,382 7,705 10,457 15,285

Infrastructure 5,752 6,641 5,856 5,566 2,654 3,132 2,920 3,202 3,639 3,744 5,346Corporate Equity 7,019 11,581 7,414 4,979 5,456 2,412 6,161 2,137 096 1,031 1,105Other Capital Outlays 2,239 2,349 1,664 3,317 1,844 2,422 1,955 4,043 3,170 5,682 8,835

NIT LNDING 812 1,007 2,218 2,143 2,643 848 7,505 3,277 2,288 607 (159)

DEBT AHORTIZATION 1,540 1,592 1,332 3,090 2,742 2,072 3,229 15,183 10,755 10,624 10,091

TOTAL 45,807 53,212 51,142 49,979 41,012 38,690 57,377 71,500 70,943 76,137 84,738

----------------------------------------------------------------------

Source of Basic Data: Department of Budget and Management

Table 9TOTAL ASSITS, LOANS AND DISCOUNTS AID NIT PROFIT OF PIN, 1980 - 1908

(In Hillion Pesos)

1980 1981 1982 1983 1984 1985 1986 1987 1988

Total Assets 38,652.1 44,866.3 58,709.8 70,502.3 87,196.1 76,156.9 26,913.2 31,267.6 38,758.1

Loans andDiscouats 24,419.7 27,410.3 32,894.4 44,502.3 47,893.5 35,319.1 8,668.2 12,406.4 15,124.7

larnings 3,319.3 5,655.6 6,586.4 7,738.3 9,170.8 5,176.1 3,941.2 3,390.1 4,998.3

xpenses 3,099.3 5,425.4 6,427.8 7,503.6 10,272.2 12,393.4 7,511.3 2,387.6 3,151.0

let Profit 211.0 230.1 158.6 234.7 (1,102.4) (7,217.3) (3,570.2) 1,010.5 1,847.3(Lose)

0

Sources of Basic Data: PAB Annual Reports (various years)

- 101 -

Table 10KEY FINANCIAL PERFORMANCE INDICATORS: PNB

1986 - 1988

--------------------------------------------------------------------------------------Deviation

1986 1987 1988 NB vs 1988Criterion (In % pts.)

--------------------------------------------------------------------------------------

CAPITAL ADIQUACY

Capital/total Assets (9.17%) 11.62% 13.20% 9.50% (Floor) 3.70%

Debt/Equity 9.9% 7.6% 6.6% 10.00% (Ceiling) 3.41%

Networth/Risk Assets 13.67% 25.93% 25.17% 10.00% (Floor) 15.17%

Standby LCs/Networtb 30.97% 18.54% 15.03% 50.00% (Ceiling) 44.97%

Total Contingent Liabilities/Net Worth 45.66% 37.65% 6.59% 75.00% (Ceiling) 68.41%

LIQUIDITY

Liquid Assets/Deposits 82.95% 85.91% 70.50% 50.00% (Floor) 20.501

Loans/Deposits 65.20% 81.78% 69.21% 85.00% (Ceiling) 15.79%

FUNDING

Gov't. Dep. & Borrowings/Total Liabilities 25.21% 26.74% 25.811 30.27% (Ceiling)CB Borrowings/Total Liabilities 0.05% 0.06% 0.01% 2.00% (Ceiling) 1.99%

ASSET QUALITY

Loan Loss Reserve/Total Loans 28.53% 24.26% 20.32% 21.50% (Floor) -1.18%

Loan Loss Reserve/Pon-Performing Loans 44.05% 47.16% 57.891 57.88% (Floor) 8.89%

EARNING PIRFORKANCE

Return on Assets -7.02% 3.491 5.221 0.50% (Floor) 4.72%

Return on Capital -212.00% 39.79% 80.57% 7.00% (Floor) 53.57%Operating fIpenses/Average Assets 4.41% 2.73% 2.901 3.10% (Nolling) 0.20%

Personnel Costs/Average Assets 0.82% 1.161 1.151 1.33% (Ceiling) 0.18%

Net Interest Income/Average Assets -3.00% 4.18% 4.491 3.001 (Floor) 1.49%

--------------------------------------------------------------------------------------

Table 11MOTAL ASSMTS, LOA0S AND DISCOUNTS AND Ii PROFIT 0F DBP

1980 - 1988(le million Pesos)

198 1981 1982 1983 1984 1985 1986 1987 1988

Total Assets 27,086.2 34,706.8 43,988.5 54,934.0 66,800.2 72,043.0 9,503.6 10,531.6 11,432.5

Loam andDiscouta 15,933.8 18,515.5 22,875.4 30,919.7 35,827.6 24,758.0 5,271.1 4,394.5 5,005.0

araings 2,673.7 3,419.7 4,369.6 5,369.8 2,648.0 3,140.2 2,138.5 1,777.2 2,569.3

hpenses 2,435.7 3,315.9 4,298.0 5,272.0 8,607.5 8,776.7 8,776.4 965.4 920.0

Het Profit 223.1 108.7 117.3 110.2 (6,640.9) (5,636.5) (5,638.2) 782.6 1,649.2(Loms)

Sourous of auic Data: DIP Anaual Reports (variois yearu)

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Table 12KEY FINANCIAL PERFORMANCE INDICATORS: DP

1986 - 1990

Indicators 1986 1987 1988 1989 1990

CAPITAL ADIQUACYDebt/1quity (incl. contingent liab.) 1/ 2.49 x 2.16 x 1.30 ' 0.85 1 1.48 xNet Worth/Risk Assetq 44% 71% 85.02% 87.731 60.431Total Equity Inv./Net Worth 31% 13% 3.80% 2.79% 4.35%

LIQUIDITYLiquid Asseta/Deposits 351% 619% 253.54% 156.551 103.85%

FUNDINGNational Govt. Deposits/Total Liab. 60% 35% 50% 0% 0%

ASSIT QUALITYTotal Reserves/Total Portfolio 36% 461 35.261 27.08% 15.151Reserves (PAs)/Portfolio (PAs) 2/ 3.4% 8.0% 11.371 2.31% 1.35%Reserves (NPA8-Old) Portfolio (NPAs-Old) 79% 100% 98.15% 104.11% 105.02%Coverage RatiosDebt Service Coverage Ratio 2.90 : 1 3.43 : 1 9.14 :1 1.29 : 1Interest Coverage Ratio 4.74 : 1 8.98 : 1 5.98 : 1 3.12 : 1

EARNING PERFORMANCENet Interest Margin/Total Assets 5.61% 7.47% 7.48% 10.061 9.431Return on Assets 1.15% 7.07% 7.201 9.24% 6.17%Return on Net Worth 4.40% 22.34% 19.911 17.051 15.31%Operating hap. 3/ /Total Assets 2.40% 4.57% 4.88% 4.88 4.561Personnel Cost/Total Assets 1.45% 2.431 2.45% 2.545 2.54%

1/ Icept those to be funded by National Government.2/ For 1986, computed on new and existing performing accounts. For 1987 and 1988, computed on

existing performing accounts as of June 30, 1986. For 1989 and 1990, computed on existingperforming accounts as of eand-year.

3/ Includes only salaries, other administrative expenses and depreciation.

* -104 -

Table 13SELECTED MACROECONONIC INDICATORS,

1985 - 1990

1985 1988 1987 1988 1989 1990

GNP Growth Rate (At constant -7.1 4.2 5.1 7.2 5.7 4.21985 prices)

Inflation Rate 23.1 0.8 3.8 8.8 10.6 12.7

National Government Deficit(As I of GNP) 1.9 5.2 2.5 2.9 2.1 3.4

T-bill Rates (All maturities) 27.0 16.0 12.9 15.5 19.7 24.7

Imports ($M) 5,111 5,044 8,737 8,159 10,419 12,206Exports ($N) 4,629 4,842 5,720 7,074 7,821 8,188

Trade Balance (SN) (482) (202) (1,017) (1,085) (2,598) (4,020)

Current Account (0N) (103) 954 (444) (423) (1,456) (2,695)

Non-MonetaryCapital Accoant ($) 1,711 81 421 643 1,518 14,492

Balance of Payments ($N) 2301 1242 264 650 451 (185)

Exchange Rate (Average) 18.6 20.4 20.6 21.1 21.7 24.3(1nd-year) 19.0 20.5 20.8 21.3 22.4 28.0

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Sources: National Economic and Development AuthorityCentral Bank of the PhilippinesDepartment of Finance

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Table 14SELECED NATIONAL INOME ACCOUNTS DATA, 1986 - 1990

(Annual Percentage Change In Constant 1985 Prices)

1986 1987 1988 1989 1990

Gross National Product 4.2 5.1 7.2 5.7 4.2

Gross Domestic Product 3.4 4.8 .6.3 6.1 2.6

By Expenditure Share

Personal Consumption 3.3 4.0 6.2 5.0 5.4

uovernment Consumption 0.3 4.9 9.1 5.6 9.3

Gross Domestic CapitalFormation 8.2 17.6 11.6 23.6 5.6

Construction -7.9 5.5 7.3 17.7 0.6Durable Equipment 13.7 6.1 23.7 32.5 15.3

Exports 17.1 6.5 14.7 10.7 1.3

Imports 10.2 28.6 19.6 15.2 11.0

By Industrial Origin

Agriculture 3.7 3.7 3.2 3.0 1.3

Industry 2.3 5.4 7.6 8.2, 1.8Mining and Quarrying 3.5 -8.8 4.2 -2.7 -2.6Manufacturing 1.8 5.6 8.5 6.4 2.0Construction -1.7 11.2 4.7 24.5 3.0Elec., Gas and Water 13.2 4.2 6.9 2.7 0.1

Services 4.2 5.2 6.8 6.0 4.0

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Source: National Economic and Development Authority

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PCR ANNEX I

Development Bank of the PhilippinesURcE oF ml CHAM

June 29, 1992

Mr. Mark BairdDivision ChiefWorld Bank1818 H Street, N.W.Washington, D. C. 20433U. S. A.

Dear Mr. Baird:

We refer to your letter of.29 May*1992 soliciting comments on thedraft Program Performance Audit Report (PIAR) on the EconomicRecovery program.. (Loan 2787-PH) and Economic Recovery TechnicalAssistance Project (Loan 2788-PR).

We take exception to your statement on page 61 of the draft PPARwhich states that "In the context of tre program originallyenvisaged under the ERL, the judgment must be that the privatiza-tion of DBP has been delayed". Considering that the variousschemes of branch privatization for DBP have been pursued to thehilt and yet were met with varying constraints, the WB Mission inFebruary 1992 stated that "the mission is now cohvinced that thesuccessful transformation of DBP to a wholesale bank and thebranch privatization can only be realistically achieved throughlegislative amendments to its charter ...... ". Mr. Vineet Nay-yar's letter of March 6, 1992 also mentioned that they "nowbelieve that an amendment of DBP's Charter is the only realisticand viable option". With these developments, we do not agree thatwe could consider the program as delayed. In facz, since theobjectives for which branch privatization, among others, vaeattempted had already been achieved, (i.e., successful introduc-tion of wholesale banking, rehabilitation of DBP, etc.) thereappears to be a need to take a second look at the propriety ofimposing such a conditionality.

Very truly yours,

CBsZaTA V. FRNcISCOSenior Vice President

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Documents

World Bank Document · 2018. 3. 26. · document of the world bank for official use only report no. 10866 program performance audit report philippines economic recovery program (loan