An Assessment of the Philippine Economy - DOC by Levone

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									An Assessment of the Philippine Economy

Germelino M. Bautista

This report discusses the cyclical and unsustainable pattern of Philippine economic growth, the
factors precipitating the economy’s cyclical downswings, the contribution of the various sectors
and implicit growth strategy, the effect on employment by gender, and the state of the country’s
natural resources and environment. It argues that the cyclical pattern of growth and movement in
income are related not only to the pattern of spending at the macro level, the nature of electoral
politics, and developments at the sectoral and regional level. They are also affected by the
unsustainability of the implicit growth strategy prior to the 1980s, limitations of the current
liberalization strategy, and the state of the country’s natural resources and environment.

The implications of the growth pattern for the poverty situation of the country and the state of its
environment in the last twenty years are also explored in the report. More particularly, it asserts
that cyclical growth with very short spurts or upward swings, given a severely degraded
environment and high population growth rate, make poverty alleviation extremely challenging.
After identifying the various core poverty groups that have emerged out of the country’s growth
experience, the report provides a brief evaluation of government capacity and effort to alleviate
poverty. It concludes with a preliminary discussion of selected strategic interventions to address
the persistent problems of unsustainable growth, poverty, and environmental degradation and the
implications of these interventions for economic governance.

All tables and figures can be read at:

                    What Has Been the Nature and Pattern of Growth?
                Postwar Cycles, Employment, and Per Capita Income Levels

Few and short periods of growth spurts, long-term cycles of upswings and downswings, and a
marked difference between the cyclical growth patterns before and after 1983 characterize the
post-WWII growth of the Philippine economy.

Using per capita GDP growth, Figure 1 shows the various cycles of the Philippine economy from
the 1960s to 2002, their fluctuations, and length. Rather than a linear or a progressive pattern of
growth, the figure reveals instead a series of limited and brief periods of growth spurts. From the
1960s to 2002, the economy has gone through six cycles – 1962-1965, 1966-1969, 1970-1973,
1974-1983, 1985-1991, and 1992-1998. Each cycle starts off with several years of growth that
eventually decelerates. The economy peaked, for instance, in 1962/63, 1972/1973, 1976/ 77,
1988/ 89, and 1996/ 97, dipping downwards in subsequent years to complete the cycle and start
anew. Except for the longer stretch between 1975 and 1982, each cycle in the last four decades
have extended over a 4 to 5 year period of positive growth before ending with low or negative
growth rates in per capita real GDP (1990-93, 1998). At present, the economy is on its seventh

Across the various cycles, a chasm represented by the crisis period (1983-1985) divides and
differentiates the cycles in the 1960 to 1982 period from those in the period from 1986 to the
present. These crisis years came with the assassination of Senator Benigno Aquino which saw
the end of Ferdinand Marcos’ authoritarian rule. With the crisis period as a watershed of sorts for
cyclical growth, the period before it, the 1950s to 1982, registered positive GDP and per capita
GDP growth rates that were not punctuated with negative growth rates.

Interestingly, the number and volatility of growth cycles are higher when investment growth
rather than GDP or GDP per capita growth is used to define them. With investment growth as a
cyclical measure, there were years of negative growth rates and crisis years before the 1983-1985
crisis (de Dios 2000). The following years with negative growth in investment of more than one
percent were defined as periods of economic crisis: 1956 (-1.8), 1960 (-10.7), 1970 (-4.0), and
1980 (-2.8).

The chasm that divides these two periods also differentiates the movement of per capita real
income. Despite cyclical downswings from the 1970s to the early 1980s, real per capita income
managed to move continuously upwards during the period, peaking in 1982 (Figure 2). In
contrast, cyclical growth with negative rates after the 1983-1985 crisis prevented income from
moving steadily upward. As a result, it took two decades to recover peak 1982 real per capita
GDP. Were it not for various internal and external destabilizing factors, such as the 1990 coup
attempts and the 1991 elections and power shortages, the 1990 GDP growth rate of 3%, if
maintained, would have been able to recover the peak 1983 real income in 1993. With the long
recovery period, the absence of any increase in real GDP per capita from 1983 to 2002 suggests
that the average Filipino did not experience any material progress within the period.

It is interesting to note that in comparison to GDP per capita, the recovery of the peak GNP per
capita was achieved two years earlier, in 2000, largely because of the contribution of overseas
remittances. Illustrating the movement of real GDP and GNP per capita in 1985 prices from 1970
to 2002, Figure 2 shows the divergence between the two series, specifically after 1991, that
reflects the increasing role of overseas remittances. Apparently providing a two-year advantage
in additional income, overseas employment and remittances provided a way out of domestic
political instabilities and economic difficulties.

Since the 1970s, overseas Filipino workers have been deployed to foreign countries. Figure 3A
shows the number of deployed overseas Filipino workers and their remittances from 1984 to
2000. Accounting initially for 1.4% of total employment in 1980, they grew in numbers and
eventually constituted 3.1% of total employment in 2000. Increased rates of deployment and
transfers of overseas remittances were also apparent during slump or crisis years, such as 1985,
1991, and 1997-1999.

Given the increasing numbers of Filipino overseas workers, a plethora of studies have been
conducted to assess their impact on families, communities, and the economy as a whole. The
current literature presents ambivalent narratives. On the one hand, overseas labor employment in
varied occupations and destinations have generally improved the living conditions of the families
left behind, although such improvements seem to have been premised on longer overseas stints
or contract renewals. At the level of individual migrants, their worlds have broadened
considerably as they discovered personal autonomy and individuality in foreign cultures. The
new tastes they have acquired have been transmitted to their homeland, resulting in an expansion
of Philippine culinary tastes and architectural designs, among others. On the other hand, the
negative psychological effects of the Filipino diaspora on families, especially in the wake of the
increasing feminization of labor since the mid-1980s and the exploitation of Filipino contract
workers abroad, balance the overall picture.

What is clear, however, is that working for overseas markets has benefited the economy by
reducing unemployment at the aggregate level and by skill category. Going abroad has also
increased returns to investment in education and skills (Philippine Human Development Report
2002). But a major reason why a provisional labor export policy in the 1970s has been
institutionalized despite negative consequences is its contribution to the country’s foreign
exchange earnings, averaging 22% in 1995-2000. Except for 3 years within the 1984-2000
period, the level of remittances has steadily grown, thereby accounting for the increasing
difference between GNP and GDP per capita (Figure 3B). Remittances as a portion of GNP
increased from 0.07% of GNP in 1980 to 7.7% in 2000.

With regard to domestic employment, the boom-and-bust cycles have directly impinged on the
level and quality of employment of both male and female labor. As a representation of Okun’s
law, Figure 4 shows that rising GDP growth rates in 1973-1975, 1992-1994, and 1998-1999 were
accompanied by declining unemployment rates, while declining growth rates went hand in hand
with higher unemployment rates in the downswing or crisis years of 1963-1964, 1967-1969, the
early 1980s, 1997, 1999, and 2000. Male unemployment rates correlated significantly with
growth but not so female unemployment. There were more years, especially in the 1960s and
early 1970s when female unemployment rates did not move inversely with growth compared to
male unemployment. The increasing participation of women in the growing service sector (to be
discussed in a later section) may partly explain the non-application of Okun’s Law to female
Figure 4 also shows the presence of gender differentiation in employment opportunities. In the
1960s, early 1970s and 80s, and from 1988 to the late 1990s, women had higher unemployment
rates compared to their male counterparts. Moreover, even if the growth episodes in the 1980s
and 1990s opened up opportunities for female labor – as reflected in the higher increase of
female labor force participation rates (from 44% in 1981 to 50% in 1999) compared to male
labor force participation (remaining at 79% to 82%) within the same period (Figure 5) – the
increase in the number of women joining the labor force did not catch up with the historically
much higher labor force participation rates of males.

Rates of underemployment for males, however, were higher than those for females. And
improvements in GDP growth were associated with lower underemployment rates for males and
females in the early 1970s and early 1990s.

              Why Has the Country’s Economy Grown Poorly and Unevenly?
                   Accounting for Cyclical and Unsustainable Growth

Since the 1970s, the Philippines has not experienced sustained and rapid growth like some of its
neighbors. At the macro level, the downswings are related to fluctuations in private investments
and government deficit spending. Apart from these variables and other sources of
macroeconomic and political instability, the economic growth of the country has been cyclical
and unstable because of the low and erratic growth pattern of particular sectors, the
unsustainability of the implicit postwar growth strategy prior to the 1980s, and the limitations of
the current liberalization and export-oriented industrialization strategy.

At the macro level, the downturn in investments has been attributed to a decrease in past GNP
growth, higher real interest rates, lower domestic credit, and a depreciating currency (Fabella
1994). Reduced investment activity is also deemed to be significantly associated with the year
before a presidential election and with expectations of lower GDP (de Dios 2000).

Fabella’s real-structural hypothesis suggests that fluctuations are self-induced and that
government expansionary fiscal policies actively precipitate crises. Building on his view of the
relationship between government spending and crisis, de Dios argues given the crisis-prone
structure of the economy – its high import dependence, its limited export earning capacity, low
savings ratio, and overvalued currency policy - that the onset of a crisis cycle commences with
government spending to drive the economy out of recession and stimulate growth. This results in
higher interest rates and rising prices that worsens competitiveness and enlarges the current
account deficits. These deficits, in turn, are financed by foreign borrowings or by drawing from
international reserves. Under the circumstances, prolonged investment booms would occur when
there are export windfalls or external loans.
As current accounts continue to worsen and foreign borrowings fail to keep up, de Dios further
argues, the currency becomes vulnerable to speculative attacks and a drastic depreciation or
devaluation takes place. An atmosphere of macroeconomic instability, measured by wide
fluctuations in exchange rates, ensues. Resulting from cost-push inflation, high-interest rates, and
a tight money policy regime, this unstable environment has a profound, negative impact on
private investment. Although they are not significant statistically in de Dios’s regression model,
the variables that create such an atmosphere, exacerbated by expansionary government spending
prior to elections, negatively affect private investment.

However the cycles are defined – in terms of per capita GDP or investment growth – drastically
declining rates have occurred within the year before or after the start of a new presidential
administration. The country’s postwar history thus shows the crucial role of political regimes in
promoting both growth and cyclical generation, as well as determining through their policies and
actions the length of a cycle or its peak income level.

Empirically, the direction of the relationship between private investments (I) and government
spending (G) is not as clear-cut. During the 1983-1985, 1990-1991, and 1997-98 crisis years,
government consumption and capital formation decreased, instead of the hypothesized inverse
relationship (Figure 6). Only in 1959-1960 and 1969-1970 did a slump (not a negative growth)
accompany an increase in G and a decrease in I. On the other hand, in 1991-92, both G and I
increased. So far, the increase in G and decrease in I in 2001-2003 has not been associated with
negative growth, a situation that may end up similar to 1979-1980 when GDP grew by 5.1%.

Whether the relationship between G and I in crisis periods is direct or inverse, a common
observation during the slump or crisis years 1959-60, 1969-70, 1983-85, 1990-91, 1991-92, and
1997-98 is an increase in the current account deficit and deterioration in the balance of payments
position (Figure 7). Apart from declining international reserves, crisis years have also been
periods of high or increasing public sector deficits associated with declining or negative growth,
such as in 1984-85, 1990-91, and 1998 (Figure 8). On the other hand, the relatively long or
favorable cycles of 1970-1983 and 1992-1996 were marked by high growths in industry and
agriculture production and exports, in addition to growing investments and government spending
and small fiscal deficits.

The duration of a growth cycle or the onset of negative growth thus seem to depend on the
relationship between private capital and political regime, the availability of external
accommodation such as loans or IMF assistance, and the growth conditions of the different

It is unfortunate that the country’s post-war political administrations have reproduced unstable
and unsustainable economic growth. Unlike some of its neighbors, the Philippines has not
experienced a period of sustained and rapid growth since the 1970s. For various reasons, it has
been unable to build on and sustain the upward trend in per capita income seen from the 1960s to
1982. For one, the sources of postwar growth have reached their limits. Moreover, the transition
from one political regime to another, as well as from one growth strategy to another, has been
conflict-ridden and highly politicized, proceeding without the necessary institutional
arrangements to resolve conflicts, establish secure expectations, and mobilize the required
human and social capital and financial resources to build resilience against shocks and maintain
productive dynamism (Rodrik 2003)

Prior to the 1980s, natural resource and agricultural exports – together with an overvalued
currency policy, tariff protection, and government spending that supported import substitution
industrialization – provided the impetus to growth. By the 1980s, however, this implicit growth
strategy had worked itself out. The depletion of forest and fishery stocks and the inability of a
relatively underdeveloped agricultural sector to provide cheap food and new exports made it
difficult for agriculture and the natural resource sector (except for minerals) to supply resources
for industrial growth. Moreover, the propensity of governments to rely on deficit spending and
external borrowings to finance infrastructure investment and prop up growth, in combination
with an overvalued currency, eventually became inflationary and socially costly. Thus by the
early 1980s, a new growth strategy had become imperative.

The economic and political crisis in the 1983-1985 period and the depletion of the country’s
natural resources coincided with the increasing prominence of liberalization as the economic
policy framework for both the developed and the developing world. The adoption by the
Philippine government of this framework to facilitate the entry of foreign capital and the
subsequent establishment of export-oriented industries constitutes a major policy shift
distinguishing the deregulatory perspective of post-1986 economic policy makers and managers
from the protectionist bent of pre-1980s legislators and managers.

Since 1986, successive government administrations have promulgated legislation and adopted
programs that hewed more closely to the principles of deregulation, liberalization, and
decentralization. The Tariff Reform Program and the Import Liberalization Program were
integral components of the structural adjustment loan program extended by the World Bank in
the early 1980s, with phases implemented beyond 1986. They were precursors of subsequent
policies and programs that proponents in government, regardless of administration (Aquino,
Ramos, Estrada, Macapagal), justified by their contribution to the enhancement of the country’s
global competitiveness.

The liberal policies and programs included:
      ratification of the 1986 Uruguay Round Agreement of the GATT and membership in the
       Asia-Pacific Economic Cooperation and the ASEAN Free Trade Area (1993-96), the
       latter two expressly pursued for accession to various multilateral trade agreements;
      liberalization of telecommunications in 1993, banking and insurance services in 1994,
       and air transport services and domestic shipping in 1995;
      deregulation of international satellite communications and securities and banking
       regulation reform in 2000;
      promulgation of RA 8366 (1997) and RA 8556 (1998), amending the 1991 Foreign
       Investment Act to grant greater foreign equity participation in investment houses and
       financial companies, and the Retail Trade Liberalization Act of 2000, giving foreign
       investors open access to particular areas of the retail trade;
      passage of the Agricultural Tariffication Act of 1996, lifting quantitative restrictions and
       providing Minimum Access Volume to enable producers to import agricultural products
       at lower tariff rates.

Within the framework of these policies, economic directions would increasingly be influenced
by global movements of capital, investments and shifts in nontraditional exports, access to cheap
food abroad, and the extent of government’s deficit spending activities.

The following sections explore developments in the different sectors of the economy in order to
cull the sources of growth at levels lower than the macro level and link these to the poverty of
people and communities and the degraded state of the Philippine environment.

Profile and Prospects of the Various Sectors
The growth condition of the different sectors suggests probable effects on the overall cyclical
growth of the macro-economy or the length of a cycle. From 1967 to 2002, the service sector has
been the most stable. Only in 3 years out of 35 (1984, 1985, 1991) did it have negative growth
rates (Figure 9). Since the 1960s, it has sustained higher growth rates than both the GDP or GNP
rate and the manufacturing sector and has continued to lead the economy’s growth up to the
present (Table 1). Also, its various subsectors provided impetus even when the rest of the
economy was on a decline. For instance, in the 1980s, when growth rates dropped relative to the
1970s, two service subsectors – occupied dwellings and real estate, and private services – raised
the overall sector average. The use of overseas workers’ remittances for housing and real estate
purchases may have accounted for this growth. In the 1990s, transportation, communication and
storage, trade, finance, and government services also contributed to service sector growth.

While the service sector raised its growth performance, especially before the early 1980s, the
economy’s potential growth was constrained by the erratic and declining growth of the forestry
and manufacturing sectors and by the low growth performance of the crop agriculture and fishery
sectors. In the natural resource sector, forestry was the most erratic subsector with the highest
number of negative growth years (Figure 10), although its cycles before the period of negative
growth corresponded to the cyclical GDP growth pattern. It is notable that forestry registered
negative rates for 25 years in a 35-year period (1967-2002). In comparison, the manufacturing
sector had only 6 years of negative growth, with cycles of growth coinciding with those of the
macro-economy (Figure 11). Nevertheless, manufacturing growth had fallen below the GDP
growth rate by the 1990s. And agriculture’s low and stagnating growth has adversely affected
overall economic performance despite its relative stability, with only two years of negative
growth (Figure 12). Fisheries growth declined in the 1990s, reaching a zero level by 1998
(Figure 13).

Like the natural resource sector, agriculture was unable to sustain its earlier growth. After
growing at 6.3% in the 1960s, crop agriculture fell behind and grew at a much lower rate in the
1980s and 1990s (Table 2). Its growth decelerated to 1.3% in the 1990s, far below the GDP and
population growth of the country. Only livestock managed to grow above the GDP growth rate in
the 1990s. With fewer growth peaks, agriculture grew cyclically with rates generally lower than
those of manufacturing and the service sectors. As a consequence, the combined share of
agriculture, fishery, and forestry in GDP declined from 25.8% in 1980 to 16.5% in 2000, while
their share in employment declined from 51.3% to 38.6% (Table 3a, b).

Like agriculture, the manufacturing sector grew below the GDP growth rate in the 1990s, with
industry’s share dropping from 38.5% in 1980 to 30.9% in 2000.

Growth of the Service Sector
Given the stable growth of the service sector and its higher output contribution relative to
agriculture and industry through most of the 1990s, the sector was able to provide greater
employment opportunities for both males and females compared to the other two sectors. In
contrast to the pictures constructed from Figure 14, that would show the generally declining
proportion of employed males and females in agriculture, fishery, and forestry in the late 1980s
and the 1990s, the proportion of employed males and females in the different services subsectors
grew. Female employment in particular rose and dominated the community, social, and personal
services and the wholesale and retail trade (Figure 15). These subsectors accounted for about
50% of the female labor force. Males were in community, social, and personal services at a
lower level and were increasingly absorbed in transportation, storage, and communication
(Figure 16). After the crisis in the early 1990s, male employment also grew in the wholesale and
retail trade. While male employment also increased in construction, the 1997 crisis affected it

Although the economic crises of 1991-92 and 1997-98 and the El Niño drought of 1997 affected
employment opportunities negatively in industry and agriculture, they did not reduce
employment opportunities in the services sector (Table 4). Based on the Annual Survey of
Establishments, employment in services from 1990 to 1998 increased an annual average of 21%
per year (Table 5).

Table 5 also shows that a greater proportion of those employed were in micro units or small-
sized establishments, i.e. having less than 10 employees. Employment over the period in larger
establishments (10 or more workers) increased at a slightly higher rate, though not enough to
overtake the predominance of micro units. Males comprised the majority only in the transport,
storage, and communication subsector. In the other subsectors, the proportion of females either
grew or they constituted the majority. It is notable that while females accounted for 53% of those
employed in the small retail trade business, male involvement in small-scale trade grew
significantly during the period.

Employment growth in the service sector occurred even though the number of employees per
establishment declined for both micro enterprises and those with 10 and more workers. (Only in
wholesale and retail establishments with 10 or more workers was there no downsizing.) The
decrease in the number of employees in micro enterprises from 5 or 6 to 3 could have been due
to the relative ease of entry for small units like families or self-employed kin. Interestingly,
employment particularly grew in micro enterprises despite the meager wage per worker. Low
levels of compensation – ranging from 52 to 220 pesos per day and increasing at 0.25 to 6%, a
rate below the inflation rate – imply that the workers concerned would accept any amount rather
than remain unemployed or underemployed, especially in periods of crisis.

Upon reflection, it would seem that the availability of more employment opportunities in micro
enterprises and the increased involvement of females across the different services and of males in
the small trade outfits might reflect adjustments workers made to unemployment or
underemployment difficulties during the 1990/92-1998 cycle period.

Other processes underpinned the growth of female and male employment in the services sector.
Men and women withdrew or were pushed out of their role in agriculture as self-employed
producers and unpaid family workers, respectively. Their transfer into the non-agricultural sector
either as wage/salary workers or as own account workers (self-employed or employer) in the
period from 1985 to 1990, for instance, entailed migration from Regions 5, 6, 7, 8, CAR, 2, and
1, and settlement in urban areas like NCR, Cebu, and Regions 4, 10, 11 or their urban centers
(Table 6). Women constituted a larger proportion (53.3%) of these migrants. Three out of 4
(74.7%) of them moved to Metro Manila and other urban centers (Villamil 1998). Given the
proportion of women migrants in urban areas relative to men, more of them would have been
recruited into the informal urban labor market.

Table 7 presents various economic activities identified in a 1995 survey of the urban informal
sector in the National Capital Region (NCR). About 80.5% of these activities fall within the
service sector (National Statistics Office n.d.). Most of them – tending sari-sari (small variety)
stores, food retailing, other trade, providing services in rented buildings, personal and household
services, and assisting in eating, drinking, or lodging places – employ women. The survey also
estimated approximately 291,000 informal sector operators who employ about 539,000 persons.
Such operators and employees comprise about 18.6% of total employment in NCR. It is quite
possible that most workers in the informal sector reside in slums or belong to E households
(according to the 1993 classification scheme of the Marketing and Opinion Research Society of
the Philippines), which different survey organizations estimate to constitute about 32%-40% of
households in 1995 (Bautista 2001).

Comprising a greater proportion of unpaid family workers in both the agricultural and
nonagricultural sectors, females have been a significant source of surplus labor for the urban
economy. They have in effect served as a reserve army, drawn into and mobilized not in factories
but in the formal and informal service sectors. Since women made up 64.4% of the poor working
population in 2001 (Philippine Human Development Report 2002), the likelihood that they are
drawn in greater numbers into the informal vis-à-vis the formal sector is high indeed.

The dualistic structure of the larger economy, segmented into a formal/organized and
informal/unorganized sector is being reproduced in the urban service sector. With its varied
activities and accompanying size reduction of service units, the informal sector seems to be
undergoing a Geertz-like involution process of absorbing unemployed, underemployed, or
displaced labor from the larger community, thereby complementing the limited opportunities in
the other sectors or parts of the country.

Is this part of the restructuring of the Philippine non-agricultural sectors resulting from cyclical
growth and the process of liberalization?

The Limits of Service-led Growth
The expansion of the informal service sector and the higher growth rate of the formal service
sector relative to the GDP rate, however, could not pull up the rest of the economy. Its growth
did not spread to most regions and corners of the country, as reflected in the Gross Regional
Domestic Product (GRDP) growth rate from 1987 to 1999. Table 8 reveals that service sector
growth was confined mainly to the National Capital Region, Cordillera Autonomous Region,
Southern Tagalog, and Central Visayas, where the sector grew faster than the national average
(Manasan 2002).

Since the expansion of the service sector is part and parcel of urbanization, growth in these
regions occurred in the cities, where financial, commercial, educational, and governmental
centers are located and physically coexist with the growing slum population and informal service
sector. The cultural and recreational attractions of these cities to domestic and foreign tourists
have fostered the development of the formal service sector (e.g. the expansion of airline and
hotel facilities with the influx of tourists to Cebu). However, the absence of growth in agriculture
and manufacturing in the countryside also increased the number of lower middle class and poor
rural migrants to urban centers, but they were too numerous to be absorbed by the formal service
sector. Thus urban in-migration has resulted in both the market expansion of the informal sector
and growing slum populations

Service-led growth in the absence of environmental management responses and facilities is also
constrained by the carrying capacity of its urban environment. Because booming urban centers
attract more people and promote economic activities, the process of urbanization and population
and economic growth entails greater consumption of energy and water resources and the
generation and accumulation of wastes. Hence, cities without adequate foresight and safeguards
face problems of groundwater depletion, improperly disposed garbage, air and aquifer pollution,
coastal land subsidence, and the accompanying health hazards. These problems are already
apparent in Metro Manila, Cebu, Baguio, Batangas City, Cagayan de Oro, and other cities. Table
9 illustrates the extent of groundwater depletion due to greater withdrawal than recharge in
Manila, Cebu, and Cagayan de Oro, while Figure 17 shows that the actual average total
suspended particulate (TSP) in most cities exceeds the TSP guideline, indicating the extent of air
pollution (World Bank 2002).

The Manufacturing Sector
Shifts and restructuring within the sector. Tables 3A and 3B show that as a sector, industry
maintained its GDP share of 31-35% and its employment share of 14-16% in the 1990s.
However, manufacturing, a major industry subsector in the 1970s with a 25% GDP share,
declined steadily in the next two decades, resulting in a 22% share in the late 1990s and early
2000. While not exactly dramatic, the 3 percentage-point drop in the Philippines contrasts
sharply with the increase in the GDP share of this subsector in Thailand, Malaysia, and
Indonesia. Philippine value added in manufacturing was only 32% of Thailand’s, 57% of
Indonesia’s, and 59% of Malaysia’s in 1998 (Table 10). Furthermore, the country’s 3.6%
industrial growth in the 1990s was much slower than that of Thailand (9.0%), Indonesia (9.9%),
and Malaysia (10.8%). Although its industrial exports in 1998 exceeded those of Indonesia, they
were much smaller than those of Malaysia and Thailand (Hill 2002).

The shift from industrial protection to a liberalized structure, the domestic currency policy and
external financial environment, and the accompanying flow of foreign investments have had an
effect on the level and composition of manufacturing output, the size distribution of firms, and
the level and sources of employment. Since the 1980s, investments, particularly foreign direct
equity investments, have risen, growing at an average 3.75% annually from 1981 to 1990 (Table
11C) and reaching their highest volume in 1994. While undeterred by the 1983-84 economic
crisis, their marked decline from 1995 to 1998 partly reflects the effects of the 1997 Asian
financial crisis.

Where was foreign investment directed? Across the broad sectors, very little went to agriculture,
fishery, and forestry. Instead, industry and services (banks and financial institutions) received the
bulk of investment, with industry having the greater share. Within industry, investments in
manufacturing grew consistently from the 1980s to 1994. Investments in mining also grew, but
declined from 1991. Among the different manufacturing industries, a significant portion of
foreign investments went to chemicals and chemical products and food in the early 1990s (Figure
18). By 1996, machine, apparatus, appliances and supplies, and nonmetallic mineral products
became significant.

What were the major changes in the manufacturing sector? Table 12 shows the share of the
various manufacturing industries in gross value added. Food processing continues to be the
dominant industry, having regained its 44% share of 1985 by 2002. While foreign investments
may have infused greater capacity in the food processing industry, it is not clear whether such
investments contributed to greater export production or production for the local urban market.
The proportion of processed food output exported in 1995 was 27.5% of PSIC category 311
(canned fruits, vegetables, fish, seafood, and coconut, vegetable, and animal oil) and only 4.9%
of PSIC 312 (grains, bakery, milled sugar, confectionery, desiccated coconut, coffee, and animal
feed). Apparently, there has been no improvement in the production efficiency or export
capability of PSIC 312.

What is apparent in Table 12 is the impressive increase in the share of electronics, which grew
from 3.7% in 1990 to 13% in 2002. This contrasts with the decline in the shares of particular
industries such as petroleum products, garments and footwear, and wood and rubber products.

Other changes have transpired within the manufacturing sector. With its relatively constant share
(14-16%) of total employment over time, the common impression is that the size distribution of
firms has not changed. Large firms are believed to continue to dominate the sector and small
firms largely account for residual employment and value added. Micro enterprises with less than
10 workers accounted for about a quarter (23-24%) of manufacturing employment in 1990 and
1998, while small, medium, and large establishments accounted for the greater portion (Table
13). However, since the late 1970s, the distribution of firms and employment by firm size has
changed. Specifically, there has been an apparent shift in the number of firms, percentage of
employment, and percentage of value added from the large enterprises (200+ workers) and the
medium (100-200) to the small enterprises (10-99 workers), as shown in Table 14.

Based on manufacturing survey data from 1982 to 1998, the shift from large and medium
industries to small industries has been accompanied by contraction in operations and labor
displacement, specifically in textile, rubber, glass, wood products, and pottery. Because of
investment inflows, there was a net increase in employment over the period, specifically in large
industries, like electronics and professional and scientific equipment production, and in a few
small industries, like leather, plastic, nonmetallic, fabricated metal, machinery, and others. More
employment opportunities were also available in food processing and wearing apparel. But the
net increase in employment over a 16-year period was not significant. On average, only 30,511
additional jobs per year were generated (or only 3 percent of the 1.013 million labor force
entrants in 1998), thereby failing to improve the sector’s share of employment opportunities
(Table 15).

The effect of foreign investment inflows is more apparent in the trade accounts. For instance,
foreign investment in machinery, apparatus, and appliances, a large-scale industry, contributed to
the growth of exports (particularly electronic products) as well as imports. Since the early 1990s,
electronics exports have been a major source of growth, increasing in value from $1 billion in
1985 to $7 billion in 1995 and $20 billion in 1999. Together with smaller, related items such as
machine goods, electronics accounted for the entire merchandise trade expansion in the 1990s, or
almost 70% of the merchandise exports of the country. And more imports have become available
due to trade liberalization, resulting in higher ratios of imports to GNP.

It is notable that the manufacturing sector’s gross value added did not sufficiently expand with
the growth of electronics exports. One reason could be that the manufacture of semi-conductors,
one of the country’s biggest export products, is essentially an import-export operation where
local value added is thin and backward linkages are absent. The industry is also weakly
connected to consumer electronics. Hence, with its very low value added, the growth of
electronics product exports was not able to substantively expand the export sector and transform
the manufacturing sector.

Similarly, the expectation that employment opportunities would grow with the increase in labor-
intensive export production did not materialize. The earlier growing demand for labor in the
export-oriented wearing apparel or garments industry was not sustained in the late 1980s. When
it collapsed, the electronics industry became the second biggest employer in 1998, next to food
manufacturing. The ability of the industry to absorb a substantial portion (39%) of the work
force, however, meant that there were very few industries that could significantly provide
employment opportunities. As a result, its growth was not enough to raise the proportion of labor
employed in the manufacturing sector.

In sum, the new exports have come mainly from the electronics industry, and their production
has not contributed substantively to value-added or net trade surplus. Engaged in enclave
production, they have hardly been linked to the larger economy and contribute meagerly to
growth. As a consequence, little structural change has occurred with this form of export-oriented

Manufactured exports and capital flight in the new global order. A number of concerns had
arisen by the 1990s regarding the transition to a new export-oriented industrialization strategy
with foreign capital involvement. Apart from limited value added, employment creation, and net
trade, multinational involvement in export production might also have entailed capital flight
through export under-invoicing. While it was common knowledge for Filipino log exporters and
sugar barons to underreport their earnings in earlier decades, it is surprising to imagine global
capital engaging in the similar practice of accumulating stores of earnings outside the site of
country production. Edsel Beja’s preliminary data suggest that from the mid 1980s, about $1
billion a year may have been under-reported. By 1996 and 1999, annual capital flight through
export under-invoicing increased to $2 billion, reaching about $4.8 billion by 2000 (Figure 19A).

 Apart from under-invoicing export earnings, the same exporter-importers could have
understated import receipts, possibly to reduce import tax payments and other customs exactions
that are suppose to be based on the value of the merchandise (Figure 19B). Transfer pricing
could be another possible motive. Because the unreported import purchases are certainly
received by a supplier belonging to the same conglomerate, under-invoicing may be a means to
transfer revenues.

The involvement of foreign investor-exporters in this contemporary form of capital flight raises
the issue of global corporate governance, unless the policy framework of liberalization and
deregulation considers capital flight from developing societies a natural consequence of the free
flow of capital.

The Natural Resource Sector: Depletion of Forestry Resources
The country’s natural capital (forests, fisheries, minerals, soil, and water) has conventionally
been viewed as free, inexhaustible instruments for economic use and wealth creation.
Accordingly, the postcolonial state allocated most public forestlands for resource extraction
rather than conservation. All political administrations (some more than others) liberally granted
permits for logging, mining, livestock grazing, and tree plantations. Since the 1950s, an
increasing portion of forestlands were released for commercial logging purposes; by 1990 the
government had granted a total of 10.2 million hectares or about 68 percent of classified
forestlands to timber license agreement holders (DENR 1992).

The allocation of forestlands for commercial logging or mining purposes suggests that extractive
companies and their work force (rather than landless aspiring peasants) pioneered the opening of
frontier forest lands and paved the rough trails and roads that linked their logging concession
areas to town centers. Judging from current observations and interviews in settled logged-over
lands in Mindanao, they were left in an unproductive state for landless lowland migrants to
cultivate later for subsistence. Some logging workers also settled in the area and opened up
residual forest for cultivation (Seki 2003).

State incentives also bolstered the production and export of natural resources and the
establishment of resource-processing industries. In the forestry sector, these incentives included
liberal annual allowable cuts, zero export taxes, low forest charges, and high protective tariffs to
shelter the local processing industry. In the other resource sectors, low permit fees or taxes on
commercial fisheries and mining, respectively, or subsidies in the form of state infrastructure,
price support, stabilization funds, and tax amnesty encouraged resource extraction and export.
Ironically, incentives in the forestry and other sectors also came in the form of state inaction or
the non-enforcement of existing policies and penalties.

Given these incentives, high economic rents available in the sector, and the failure of the state to
require reinvestment in the resource stock, the production of forestry, fishery, and mineral
commodities grew at an unsustainable rate during the postwar decades, eventually depleting the
resources. In the forestry sector, about 172,000 ha of primary growth forest was lost annually
from the 1950s to the early 1970s. The much-reduced stock henceforth prevented timber
production and export from proceeding at the same rate. It contracted by 4.4% in the 1970s, by
7% in the 1980s, and by 21.7% in the 1990s. In the early 1960s, the average contribution of
forestry to the economy was a significant 15% of gross value added (Bautista 1990). Had forest
utilization for wood production been planned with a sustainable resource management system in
place, the sector could have continued contributing positive value added.

Unplanned and excessive logging initiated a historical process of forestland conversion and the
eventual loss of the country’s forest cover. Comprising about 70% of the country’s 30 million ha,
the estimated forestland of 19.5 to 20.9 million ha in 1901 was reduced to 5.39 million ha by
1997 (Table 16A). This process of deforestation involved the degradation or conversion of old-
growth forests and even residual forests, contributing to the expansion of unproductive
reproduction brush, grasslands, and farms. Table 16B provides estimates of forest area
conversion to other types of forestlands and farmlands.

The changed landscape, vegetation, and use of forestlands are significant because they have also
altered local climate, precipitation, soil conditions, slope stability, and stream flow. These, in
turn, have had consequences for lowland and downstream communities and facilities. Figure 20
shows the cumulative build up of sediments originating from the degraded types of forestlands
based on soil erosion rates on different types of land. Much of the soil erosion resulted from the
conversion and loss of old-growth forests to other types of land.
The history of logging in the Philippines, limited replanting activities of timber licensees, and
absence of new tenure and management systems in the cancelled logged-over concession areas
have rendered most forestlands open-access resources vulnerable to illegal cutting, lowland
migration, swidden farming, forest fires, and other soil depleting activities. These conditions
have further contributed to forestland degradation, the formation of deep gullies, soil erosion,
excavations, landslides, and sedimentation that have in turn expanded flood plains and damaged
farms on both sides of rivers (Umehara 2002). Other off-site impacts include the siltation and
sedimentation of irrigation canals, reservoirs, and dams and the consequent decline in water
delivery and hydroelectric power production. Hence, apart from local external effects such as
local climate change, slope instability, soil erosion, and reduced or erratic stream flows,
deforestation has also negatively affected the off-site/downstream productive potential of
irrigation systems and hydroelectric power facilities, the recharge capacity of aquifers, and
lowland soil quality. These have constrained farm yields and income, as well as the overall
growth capacity of the economy.

Deteriorating environmental conditions are significantly related to poverty and migration. Table
17 shows that provinces with greater forest loss, larger proportions of farmlands, and smaller
proportions of irrigated farms have had a higher share of households living below the poverty
threshold. High poverty incidence or lack of growth or employment opportunities in the non-
farm and non-forest sectors of these provinces has also been associated with out-migration. Other
studies have shown uplands, as well as coastal and urban centers, to be destinations of rural

Fishery Depletion and the Sector’s Growth Potential
The degradation of Philippine forests is paralleled in the coastal areas and seas by the depletion
of fish stock. Because of population growth and the increase in local and external demand, the
number of fisher folk and carrier vessels of different tonnage and fishing gears in the municipal
and commercial fishery sector, respectively, have increased since the late 1940s (Dalzell et al.
1987). With the use of fleet horsepower as numeraire, the fishing power or equivalent
horsepower of a fisher folk and his vessel, as well as the horsepower equivalent of a commercial
vessel with its respective gear and tonnage, is now measurable (Israel and Banzon 1998; Padilla
and de Guzman 1994). As an indicator of fishing power or effort from the late 1940s to 2000, the
combined horsepower of municipal and commercial fishery for small pelagics in the country –
sardines, herring, mackerels, anchovies – is shown in Figure 21. The figure reveals the
acceleration of fishing efforts in the 1970s and early 1980s. National statistics show, however,
that the 4.5% growth rate of fisheries’ gross value added in the 1970s declined to 2.4% by the
1980s and 1.4% in the 1990s.

An increase in fishing effort is therefore not necessarily associated with greater catch per unit
effort (CPUE). A decline in CPUE signals the onset of an “overfished” situation that the market
might not reveal. By measuring CPEU, Figure 22 shows, for instance, that the stock of small
pelagics in the country was already being over-fished in the late 1970s or early 1980s.

In an “overfished” situation, municipal fisher folks and those in the commercial sector have
different capacities to provide the required greater effort to harvest a given catch. They could be
differentiated by the gear and tonnage of their vessel. Figure 23 shows that the disparity between
municipal and commercial fisheries in capacity to catch fish had grown by the 1980s. Since then,
the CPUE of municipal fisheries has diminished more than the CPUE of commercial fisheries.
Even as non-government organizations working with fisher folk bewailed the loss of fish as a
result of the destruction of corral reefs, commercial fishers led by catchers of tuna for export
experienced modest and steady growth by going farther out into the sea.

Reduced stocks and competition from commercial fisheries caused the value added of municipal
fisheries to decline from half the subsector’s share of gross value added in the 1960s to only one-
third in the 1990s. Nevertheless, while commercial fishery also experienced declining CPUE, the
fishery sector continued to grow. Interestingly, its growth from 2000 to 2002 did not result from
the revival of municipal and commercial fishery but from the expansion of aquaculture and
mariculture. The continued expansion of these two sectors, however, is threatened by various
environmental factors. The siltation of coastal areas and pollution of rivers, for instance, have
reduced the supply of milkfish fries. The pollution of coastal waters and the outbreak of red tide
episodes, on the other hand, have constrained the growth of mariculture.

On the whole, resource depletion caused by overfishing, destructive fishing practices, the
degradation of mangroves, and the pollution of major rivers and lakes contributed to the
weakening performance of the fisheries sector in the last two decades. The impact of
deforestation and the unintended effects of lowland agriculture (e.g. seepage of chemicals from
fertilizers and pesticides) and the constraints these impose on its more promising growth areas
(aquaculture and mariculture) do not augur well for fisher folk who have traditionally relied on
fishing, as well as those who have recently fallen into the sector’s “safety net.” It is worth noting
that the very high annual growth rates of the population engaged in full-time (3.7 to 9%) or part-
time fishing (1.5 to 12%) from the 1950s to the mid-1980s – rates far above the national
population growth rate (2.35 to 3%), suggest that displaced workers or residents in upstream and
lowland areas have taken refuge in coastal villages (Table 18). The increasing congestion in
many such areas explains why Philippine coastal villages of late conjure images of urban slums.

Table 19 shows how the relatively high growth rates of gross value added (GVA) by commodity
in the 1960s and 1970s declined overtime (David 2002). Unfortunately, the high rates for crop
agriculture could not be sustained in the succeeding decades. Specifically, palay and corn
experienced declining, albeit positive rates in the 1980s and 1990s. On the other hand, coconut
registered negative growth in the two decades, while sugar and bananas’negative growth in the
1980s improved in the 1990s, but were still far from their growth levels of the 1970s. Only
piggery and poultry grew steadily over time.

Since the 1980s, the Philippines has had one of the lowest GVA average growth rates in the
Asian region (Balisacan 2002). There were no new export cash crops in the 1980s. New high-
value crops, like potato, vegetables, and cut flowers, were introduced at this time but have had
limited effect on sector production. By the 1990s, Philippine agricultural exports’ share of world
exports had declined, especially for banana and pineapple, while agricultural imports surpassed

The slow and stagnating growth of crop agriculture in the past two decades contrasts with the
situation that prevailed from the 1950s to the 1970s. At least three developments contributed to
the sector’s remarkable growth three decades ago:

      the establishment of a national irrigation system (NIS) in the 1950s and 1960s over an
       area that covered about 70% of the current system;
      peso devaluation in the 1960s, the boom in world prices in the early 1970s, and
       preferential access to the American market for sugar;
      the introduction of the new high yielding seed-fertilizer technology in rice coupled with
       subsidized government credit.

What has happened since then? Why did the country’s head-start over other Southeast Asian
countries in the Green Revolution not translate into sustainable agricultural growth?

The opening of forestlands for migrant farms and the deterioration of irrigation and water
supply. Several factors undermined the growth of the sector. While farms were generally located
in the lowlands in the 1950s and 1960s, they began to expand to the upland public forests from
the 1970s. The migration of landless settlers and the claims of lowlanders over portions of
forestland dramatically increased population and farming activity in the uplands. Estimated at 2
to 4 million people (Cruz 1989) – about the size of the indigenous peoples or from a third to a
half of rural-urban migrants – the magnitude of upland migration from 1970 to 1990 had
profound implications. Given the farm technology and consumption requirements of lowland
migrants relative to indigenous peoples, the presence of the new settlers more than doubled the
pressure on forest and upland resources. The migrants, who could not subsist on food gathering
and hunting unlike their indigenous counterparts, cleared the existing vegetation and diverted
natural springs for domestic and farm use. Since the encroachment and settlement of the uplands
by subsistence peasants coincided with or followed the onslaught of commercial logging, their
shifting farm practices and upland expansion exacerbated the effects of deforestation. As a result,
downstream areas, irrigation facilities, and farms were adversely affected by cumulative soil
erosion and reduced stream flows.

Against this backdrop, the decline in the growth of agriculture after the 1970s is traceable to the
following factors:

      the intensification of commercial logging and upland farming activities from the 1950s to
       the 1970s;
      the effects of logging and upland farming on the volume and distribution of stream flow
       from headwater forests to lowland farms;
      the consequences of excessive surface runoffs during the rainy season on soil stability or
      the accumulation of silt and sediments in irrigation canals and reservoirs.

The degradation of the watershed in the logged-over and upland farm areas has thus impaired the
delivery of irrigation services, if not damaged some existing facilities. These in turn resulted in
deteriorated land quality. At the start of the 1970s, when 70% of the existing NIS system had
already been established, the system began to supply less and less water. There were fewer
facilities operating while some of the operational ones could not fully cover their respective
service areas. This decline in performance reflected the extent to which upland vegetation and
soil stability had changed, as well as the volume and distribution of stream flow from headwater
forests to farms. Under these conditions, the building of additional irrigation systems became
unviable by the 1970s, while deterioration appeared to continue. More than twenty years later
(1995), 83 of the 171 NIS were in critical condition and could service only 16.6% of the total
critical watershed area of 3.13 million ha (Bautista and Tan 2001).

Ferguson’s (1987) review of the performance of publicly funded national and communal
irrigation developments in the country revealed that their performance had been less favorable
than projected, that water distribution was inefficient and inequitable, and that the system by the
latter 1980s had rapidly deteriorated. Ferguson further observed that the portion of the service
area supplied by these facilities had declined rapidly and that the systems built after 1972 could
reach only 56% of their designed area, unlike the broader reach of irrigation systems constructed

The weak performance of post-1972 irrigation facilities compared to those built earlier might
have been due to the combined effects of accumulated environmental degradation or
deforestation, the availability of social capital, or corruption in the construction of these
facilities. Failure to contain unabated logging operations in the 1960s and 1980s and to
rehabilitate logged-over forest lands, for instance, could have eroded watershed quality. This in
turn would have made it more difficult to clear the much higher amount of accumulated silt from
upstream deforestation and to obtain adequate water for the new high-yielding crop varieties in
the areas covered by the new NIS. The heavier workload and the need for greater vigilance in
maintaining an NIS (new or old), underlie de los Reyes and Jopillo’s (1989) finding that facilities
maintained by irrigation associations using a participatory model – therefore reflecting a higher
level of social capital – had higher service ratios (74% as opposed to 64%).

Farmers’ informal complaints about cracks and leaks in newer irrigation canals have aggravated
the situation further. Corruption in the form of inferior construction materials or short cuts in the
fulfillment of government contracts is widely suspected and discussed in local rumor mills, but
there are no empirical case studies of corruption in the construction of irrigation systems known
to this researcher.

A more common view in the literature is that the low performance of existing irrigation systems
is a function of the design and operation of gravity irrigation systems (David and Roumaset
2002). While the design could have been at faulty for not considering the reduced water
discharge resulting from deforestation or the degraded state of watersheds, the literature, with its
engineering bent, has been generally silent on the environmental impact or externalities of past
and ongoing upland activities. However, recent case studies in lowland areas closer to the
uplands are beginning to document these (Umehara 2002).

The decline in NIS performance over time may not simply be due to the engineering design of
the system or the lack of social capital among farmers whose interest is to have enough water to
meet the needs of their high-yielding seed varieties. There has also been a failure to conceptually
and programmatically link the lowland farm demand for water with its sources. Most studies of
irrigation facilities and water supply issues, as well as of agricultural productivity, gloss over the
effects of deforestation and its environmental correlates – local climate change, slope instability,
soil erosion, and reduced or erratic stream flows – on the productive potential of irrigation
systems and hydroelectric power facilities, the recharge capacity of aquifers, and lowland soil

The literature also fails to consider the limitations of existing policies, such as the absence of a
headwater forest protection policy, and the segmented policy and organizational framework for
the management of forests, watersheds, and farmlands. Neither do most existing studies consider
that the lack of coordination among various government agencies (DENR-FMB, MGB, DPWH,
NWRB, NIA, and DA) is problematic.

Theoretical or methodological considerations could possibly constrain researchers from taking
into account the dynamics of different ecosystems and the need to maintain their harmony. For
instance, the adoption of an analytical framework or policy perspective that assumes an
extractive growth strategy and focuses on specific commodities or services (e.g. timber, export
crop, high-yielding varieties, roads) would tend to be insensitive to their externalities and the
requirements of the environment and the larger community.

As to concrete programs of action, major initiatives have not been undertaken to address the
simultaneous demands for forest rehabilitation, soil/land stability, improved water yields, river
protection, and irrigation management. Neither has a comprehensive and integrated program to
mitigate the adverse social and environmental impacts of logging, mining, road construction, and
other upstream activities been formulated to arrest the cumulative effects of watershed and forest
destruction on the supply and quality of water sources and consequent levels of agricultural

National agencies and local governments seem to have responded more to the immediate needs
of their constituencies. Given the poor state of irrigation and the increasing demand for water,
they have funded rehabilitation projects and the establishment of small-scale irrigation projects
(SWIPs), diversion dams, shallow tubewells, and spring boxes. While these redistributive
measures are useful in light of short-term water needs, they have been too localized. They are not
designed from a broader watershed or river basin management perspective that would account
for available surface and groundwater resources to meet competing current and future uses and
assess the social and environmental impacts of tapping into them.

Natural disasters. The share of agriculture in GVA has also declined because of natural
disasters, including the El Niño phenomenon. The records of the Philippine Atmospheric,
Geophysical, Astronomical Services Administration (PAGASA) show that the El Niño has
recurred at least every 3 to 5 years from the late 1960s to the 1980s. During this period five
drought events (1968-69, 1972-73, 1976-77, 1982-83, and 1986-87) were recorded. While earlier
drought periods had intervals of 3 to 5 years, the frequency of these events intensified in the late
1980s, with the interval trimmed to one or two years (1989, 1990-95, 1997-98). The longest and
worst drought happened in the 1990-95 period. It was also during this time (1993) that the
country had the greatest number of tropical cyclones – 33 in comparison to the annual average of
20. The El Niño phenomenon in 1997 was so severe that many rainfed and irrigated lands were
not planted that year. With the water level in Angat Dam, Bulacan, dropping by 26.4 meters from
its normal level and the Pantabangan Dam dropping 39.3 meters, there was much less irrigation
water available (Berja 2003).

Aside from El Niño, the local experience of climate change has become more frequent and
intense, including floods, drought, soil erosion, and the collapse of sloping lands that have
adversely affected the agricultural sector in particular regions. The effects of these disasters on
agricultural production have been more pronounced in about half of the country’s regions
(Regions 5, 6, 8, 10, 11, 12), where agriculture constitutes 35-50% of the regional economy
(Manasan 2002). Region 5 has been particularly prone to typhoons and flashfloods. Except for
Region 7, severe droughts and typhoons have affected crop production in the Visayan and
Mindanao regions. As cases in point, the drought in 1990 destroyed palay, coconut, sugarcane,
corn, banana, and mango in Region 6, while the 1993 typhoon affected its agricultural
production. The dry spell in 1990 and devastating typhoons in 1994 and 1996 resulted in the
poor performance of the agricultural sector in Region 8, while excessive rainfall in Region 11,
particularly in Sarangani province, and flashfloods in South Cotobato that affected standing crop
contributed to the 23% decline in the region’s corn production.

Adverse natural conditions made worse by degraded watersheds and poorly performing irrigation
systems have made agricultural production more risky and threatening for subsistence farm
households. In the absence of crop insurance, subsidized government credit or safety nets, the
threats and uncertainties posed by uncontrollable natural events may have further fostered
dependence on local creditors who also serve as local farm input suppliers or product buyers.
Research is needed, however, to determine whether the risks and needs for financial assistance,
which have intensified with the greater frequency and severity of natural disasters, have resulted
in new terms within the informal credit or product markets or whether the risks have simply been
absorbed by households that may have moved downwards on the social ladder.

Trade liberalization and low world prices. Finally, low world prices for farm products in the
context of trade liberalization have buffeted the agricultural sector. While historically agriculture
has been a net foreign exchange earner, accounting for 66% of exports and 20% of total imports
(including manufactured agricultural inputs), by the early 1990s it ceased to be a net earner.
Agricultural import share rose from 30% of agricultural exports in the 1960s and 1970s to more
than 150% by the late 1990s because of the sharp drop in world commodity prices in 1980 and
their inability to recover previous levels. In the context of trade liberalization, low world prices
have both been beneficial for consumers and detrimental to small rice farmers. The drop in world
rice prices, in particular, has eroded the country’s comparative advantage in rice.

The seeming bright spot in agriculture is the livestock and poultry subsector, the only one that
grew above the population growth rate (in the 1960s, 1980s, and 1990s for livestock and
throughout the period for poultry). The growth rate of this subsector accelerated after 1980 and
its contribution to GVA rose from 13% to nearly 25% within two decades. The subsector further
grew in 2000-2002 at 7%. David et al. (2002) assert that its growth and export potential could
have been greater but for the protection of the local corn feed industry.

Interestingly, as a growth industry, livestock and poultry farms in Mindanao (e.g. Bukidnon)
have generally been established in mountain areas and near rivers to support the animals’ health
and development and for easy wastewater disposal, respectively. This industry decision was
made without explicit estimates of environmental costs. It would seem that while the hog and
poultry industry is being penalized by quantitative restrictions or tariffs placed on corn imports,
it is being subsidized by the environment.

While import liberalization may be beneficial to consumers, government does acknowledge its
potential negative impact on small farmers. Liberalization could result in unemployment or
displacement, particularly in inefficient sectors, when efficiently produced imported
commodities are cheaper than local products. Trade liberalization may also result in greater
inequity in the agricultural sector. Unlike big producers, small farmers cannot achieve economies
of scale. This limits their access to formal credit as well as to the product market and increases
their dependence on trader-creditors for loans and linkages. Hence, small farmers are forced to
sell their commodities to big traders at depressed prices.

Acknowledging the small farmers’ need for safety nets, the Philippine government has assigned
the revenues collected from Minimum Access Volume imports for this purpose, as well as to
enhance agricultural productivity. Critics assert, however, that MAV allocations have benefited
large traders more than their intended beneficiaries. They note that only a fraction (12 billion
pesos) of the promised allocation (54.816 billion pesos) for safety net assistance has been made
available. Moreover, the requirements are said to be so stringent that small farmers have not been
able to avail of the safety net funds (de la Cruz et al. 2003).

Sources of inequity within the agricultural sector that maintain, if not enhance, existing
disparities are many. Farm producers differ in access to secure tenure or ownership rights,
irrigation, credit, fertilizer subsidies, infrastructure investments, and MAV-generated funds.
Belonging either to a subsector with low/declining growth rates or to one with good prospects
also differentiates the agricultural population in terms of expected agricultural incomes. It is
accurate to project, however, that while producers will differ in the benefits gained from trade
liberalization, such benefits will generally bypass a large segment of the farm population.

                  What are the Effects of Growth Cycles, Natural Resource
                  Extraction, and Environmental Degradation on Poverty?

In the second half of the postwar period, when the country’s growth cycles were punctuated by
negative growth, statistics nevertheless disclosed a decline in poverty incidence from 44.2% in
1985 to 31.8% in 1997 and 33.7% in 2000 (Reyes 2003). The decline in poverty incidence,
however, proceeded at a slow pace and was not sustained.

Was growth pro-poor? An examination of the employment situation of the country suggests
tentative answers. The employment status in 2002 shows that job creation continued to lag
behind the growth of the labor force. More Filipinos were unemployed in 2002; unemployment
rose from 11.1% in 2001 to 11.4% in 2002 (compare to 8% in 1980, 12.6% in 1985, and 10% in
1991). The service sector continued to be the principal source of additional jobs.

In interpreting the positive change in poverty levels, three points are worth noting:

First, a significant feature of poverty in a context of cyclical and erratic economic growth and
high population growth rate is its intergenerational character. With exceptional cases of upward
mobility, the children of the poor, who are malnourished and drop out of school on average by
Grade 4, are probably fated to be like their parents. Or they will be worse off, especially if they
cannot move out of the poverty trap through urban migration, participation in the informal
economy, or overseas employment. The last escape valve is not open to the very poor, who can
not afford the cost of obtaining labor contracts and initial departures.

Second, the effects of cyclical crisis on the poor are gender-differentiated. Feminist studies on
the effects of the debt crisis and structural adjustment on women (Angeles 2001; Eviota 1991;
Freedom from Debt Coalition 1994; and Santos and Lee 1988, as summarized in C. Bautista
2002) argue that the poor generally serve as shock absorbers in times of crisis. Angeles (2001)
concludes based on case studies that the Structural Adjustment Programs (SAP) of the mid-
1980s increased poverty and unemployment rates among the women documented by the
research, widened male and female differentials, decreased formal sector employment for
women, and increased their integration into the informal sector and overseas labor market.

While pointing to similar documented effects of the Structural Adjustment Program on poor
women, the literature on the impact of the 1997 Asian financial crisis portrays a more nuanced
picture. Prior to the crisis, female labor force participation had been lower than men’s although it
increased much faster than male rates in the 1985-1987 and 1994-1996 liberalization period. The
1987-1990 period of economic recovery also registered higher female unemployment rates and
lower unemployment rates for men. This trend changed during the 1991 recession because the
growth of the female-dominated service sector in 1992 and 1993 – particularly retail, trade,
finance, and community, social, and personal services – led to faster reduction of unemployment
rates among women than men. Lim (1998) noted a significant drop in female employment in the
manufacturing sector and a general lower absorption rate of female labor during the growth
period from 1995 to 1997 as female service employment increased. In contrast, male
unemployment rates dropped in 1996 with the expansion of the industrial, transportation, and
construction sectors in conjunction with the expanding real estate market.

The 1997 financial crisis and coincidental occurrence of the El Niño phenomenon in the same
year increased unemployment levels for both men and women in rural areas. The increase in
female labor force participation in urban areas could have been the effect of migration from rural
areas and the absorption of migrant women into the expanding service sector. Since the crisis hit
the formal sector, men registered the highest unemployment rates as a result of the crisis.

The 1997 Asian financial crisis affected poor women in ways other than employment. More than
half the poor households in the panel data constructed by Balisacan and Edillon from the 1997
Family Income and Expenditure Survey and the 1998 Annual Poverty Income Survey coped by
changing their eating habits and not accessing health services. The poorest 20% of the 21,602
households in the panel data also pulled out their children of school, with more female children
withdrawn than men (Balisacan and Edillon 1999, as cited in Bautista 2002). Other qualitative
effects of the 1997 crisis on women in various sectors, particularly their coping strategies as they
absorbed its impact, are cogently summarized in J. Illo. and R. Pineda (1999).

Third, while poverty (i.e. income threshold) levels may respond to growth, the number and
proportion of poor people remain significant. Moreover, improvements in average living
standards during growth spurts, as measured by the Family Income and Expenditure Survey, may
not be reflected in the lives of the “core poor,” who hardly benefit from the growth of the formal
sector and periods of declining prices, interest rates, and stable exchange rates.

The poverty-generating processes discussed in the previous section have resulted in the creation
or reproduction of this group. Historically affected by the displacement and exclusion that
accompany growth, the decline of particular sectors or industries, and the failure of individuals
and groups to obtain gainful employment in light of sectoral and macroeconomic changes, the
country’s core poor can be found among the following:

      indigenous communities in the uplands who have been pushed into the interiors by
       loggers, miners and lowland migrants;
      former workers of logging concessions who have relocated or resettled in the uplands and
       engage in subsistence production;
      municipal fisher folk whose CPUE has declined or who have been displaced by
       commercial fisheries in their traditional fishing grounds in the absence of regulation on
       over-fishing, weak enforcement of rules against the use of destructive techniques, lack of
       protection against the encroachment of commercial fishing vessels in municipal waters,
       lack of policy on the use of mangroves, and non-existent enforcement of pollution laws;
      municipal fisher folk who cannot find or move to better fishing grounds;
      farm and non-farm workers displaced from an economically declining sector or industry
       (e.g., sugar, wood) who have migrated to upland or coastal areas;
      farm households in regions or areas where agriculture has lagged behind and been
       subjected to drought, natural calamities, or changes in climatic conditions, such as
       Cagayan Valley, Bicol, Eastern Visayas and Mindanao;
      farmers and farm laborers in areas without adequate water and properly performing
       irrigation systems or where farm production has declined;
      landless workers who have migrated to coastal areas, towns, or cities and are unemployed
       or underemployed in the informal sector;
      permanently laid-off workers.

All told, most of these people live or originate in the rural areas. Many are self-employed in the
forestry, fishery, agriculture, or urban informal sector, while some are seasonally or temporarily
hired. Generally surviving at subsistence levels, they and their families seem to have no
alternative but to survive and cope in a stagnating area or form of livelihood activity without
prospect of improvement or growth. Their kin and children seem to be caught in the same cycle
of poverty, and growth in other sectors or the larger economy have no significant effects on their

Table 20 provides a preliminary estimate of the core poor who have historically been excluded or
marginalized by development processes. The magnitude (26.7 million people) and distribution of
the various groups was estimated using the number of people below the poverty income
threshold in 1997, the known population estimate of particular groups in a given year, and the
national population growth rate.

The table shows that the proportion of core poor groups found in rural areas may be more than
the 61% estimate because this figure does not include small farmers in unirrigated and vulnerable
areas who are classified under the “unaccounted” group. Estimates of this residual category
range from 1% to 12% depending on the proportion of urban slum dwellers (26% or 36%) used.
It is also notable that the victims of cyclical growth in the formal sector among the core poor
constitute only 1.3%.

The direct relationship between poverty incidence levels and the upward swing in growth cycles,
on the one hand, and the intergenerational and gender-differentiated character of poverty, on the
other, suggest the need to stabilize the economy, lengthen its cycle, and prolong the upward
trend, so that when a slump occurs, the next generation as well as the women who carry the brunt
of crises would have enjoyed the benefits of proper education, labor force participation, nutrition,
and health care. Without a prolonged cycle brought about by sustained growth, short upward
swings will not make even a dent on the experiences of the poor in general and poor women and
children in particular.

Finally, the core poor, who have existed in the shadows of growth, need to be brought into the
light through direct poverty alleviation policies and programs.

Government Spending and Poverty Alleviation
If the post-war cyclical growth process with few and brief upward swings hardly touched a
significant segment of the poor population, then poverty reduction efforts could have only
depended primarily on government action. What government efforts were expended to address
poverty at the policy/institutional level and at the level of providing immediate relief to the poor?

At the policy and institutional level, government response is reflected in the poverty reduction
agenda articulated in the Medium Term Philippine Development Plan (MTPDP), which was
formalized and implemented through a Poverty Reduction Partnership Agreement (PRPA) with
the Asian Development Bank in October 2001. The Agreement specified a number of key
indicators and targets based on the MTPDP as a basis for monitoring progress in the attainment
of poverty reduction goals. Table 21 presents the indicators and targets for macroeconomic
stability and equitable growth, agricultural modernization and social equity, comprehensive
human development and governance.

Unfortunately, several 2002 targets were not met. Performance fell short of the target in the
follow areas: national government budget deficit; national government spending on social
services; lands distributed under CARP (Comprehensive Agrarian Reform Program);
participation rate in secondary education cohort survival rate in elementary; Bureau of Internal
Revenue (BIR) collection; BIR tax effort; and tax revenues.

The unmet budget deficit target reflects the revenue collection performance of the national
government, its mandated expenditures, and the magnitude of losses incurred by state-owned
enterprises. With regard to revenue collection, tax effort (the ratio of government revenue to
GDP) declined to 11.7% from 2001 to 2002. This decline stood in contrast to government’s
effort improvement of 9.6% in 1983-85 and 17% in 1997, levels that were nearly comparable to
those of Indonesia and Thailand. Growing at a low rate of 0.6%, revenue collection in the last
year was limited because of underpayments of value added and excise taxes and reduction in
tariff revenues as a result of the Tariff Reform Program.

Against the 0.6% revenue growth, expenditures rose by 9.4% in 2002 to meet government’s
mandated expenditures. The growing debt service or interest payments (from 21% to 26%) and
allocations for local government units accounted for 44% of the increase in the national
government’s budget in 2002.A corresponding reduction in the budget share of total economic
and social services accompanied the increase.

Manasan (2002) noted that since 1997, defense and economic services registered the biggest
increases in spending, with the bulk of the increment going to raising agricultural productivity
and land acquisition in connection with agrarian reform. In comparison, social services’ share of
the national budget has declined. Consisting of education, health, social services, housing, and
community development, this cluster of social expenditures accounted for 22% of the national
budget. Interestingly, allocation to the social services grew the least in 2002, with the
government unable to sustain its 2001 level in per capita terms.

Assessing the level of government deficits depends on how it is defined, that is, whether central
government or consolidated government figures are used. Deficits in excess of 5% of GDP were
the norm in the 1980s and the late 1990s. Applying this norm, deficit spending was maintained in
2002 at about the same level, with the government deficit standing at 5.0% of GDP.

The picture changes, however, when the consolidated measure, which includes the income
position of government-owned corporations (GOCC), is used. Losses by these enterprises, which
were much smaller in the 1990s, were in excess of 5% of GDP. Financial institutions like the old
Central Bank, the Philippine National Bank, and the Development Bank of the Philippines and
problems in utilities and trade accounted for much of the sector’s losses.

It is important to note that the country’s public sector financial position (Table 22) worsened in
the late 1990s (1997-2000) because of government’s deficit spending, losses incurred by the
monitored GOCCs, and borrowing for Central Bank restructuring. In 1998, the monitored
GOCCs and CB restructuring accounted for 63.35 billion of the 111.8 billioin peso public sector
borrowing requirements. Were it not for these borrowing requirements, the national government
could have achieved a surplus between 1994 and 1997 instead of a deficit.

Against the continuing challenges of unreformed GOCCs and unaddressed deficits,
government’s declining allocation for economic and social services from 1998 to 2002 reflects
its dwindling resources for anti-poverty measures. There has been very little room for new
spending on economic growth, anti-poverty initiatives, or the much-needed restoration of the
environment necessary for sustainable growth. Most social services per capita expenditures
declined in the last five years except for social welfare, labor, and employment, which rose
because of the 30% increase in the budget of the Department of Social Welfare and Development
in the wake of the May 1, 2001, uprising, counter-insurgency measures, and natural calamities.

It would seem from its budgetary allocations and expenditures that government’s commitment to
address poverty through growth-inducing and human resource strategies – education, health, and
housing – is not matched by corresponding resources. Its most recent focus on emergency
expenditures, while understandable in a crisis-prone country like the Philippines, provide only
palliatives for the immediately displaced and hardly respond to more persistent but longer-term
imperatives of malnutrition, preventive health, and the education of children, especially in the
degraded provinces. Nor does it address the structural conditions of the displaced in forestry,
fishery, farming, and the informal sector.
In the context of a witting or unwitting emphasis on short-term palliatives, it is not surprising
that government’s performance in its fight against poverty relative to the goals it has set has been

               Towards Possible Interventions: What Can Be Done to Address
              Unsustainable Growth, Environmental Degradation, and Poverty?

Cyclical growth with very short upward swings, environmental degradation, and a high
population growth rate that has not dropped significantly for more than three decades make
poverty alleviation extremely challenging. It would require a relatively more stable economy and
prolonged upward trends; only these would ensure that when the inevitable slumps come, the
next generation would have the health, financial support, and education to escape the poverty
trap and achieve social mobility. Based on the country’s pre-1983 experience, sustained 4-5 year
cycles with positive growth rates over a 20-year period – not seen in the last ten years – would
seem to be the minimum necessary to make the economy take off.

Sound macroeconomic management, controlled government spending, and the privatization of
deficit-prone state-operated enterprises, as well as the reform of political and judicial institutions
are the necessary conditions for sustained growth. In macroeconomic management, the
institutionalization of a liberalization framework to guide national economic plans and policies
has been a major achievement of government policy makers since 1986. Nevertheless, certain
issues emanating from the structure of the economy and the pattern of foreign investments must
be managed to enhance the potentials of liberalization:

      inter- and intra-regional disparities and urban environmental degradation resulting from
       service-led growth without corresponding development of the agricultural and
       manufacturing sectors, which constitute the material base of an economy with a large
       agrarian sector;
      social dislocation and environmental damage resulting from the increasing penetration of
       foreign capital into the country’s only untapped mineral resources;
      the narrow base of the present form of export-oriented industrialization, which
       concentrates on one industry (electronics) with limited value added, backward linkages to
       the larger economy, heavy reliance on imports, and consequently lower net trade balance;
      capital flight accompanying the growth of international trade and capital mobility;
      the need for greater entrepreneurial spirit and sense of competition with foreign capital
       among local businesspeople;
      the need for institutional safeguards in bureaucratic and government operations to obviate
       destabilizing transitions from one regime to another and break the historical link between
       regime change and economic slumps or crises.
The necessary conditions presuppose that the agricultural and the natural resource sectors are not
fetters to the development of the economy. Since the country’s natural resource base is in a
depleted state, a sufficient condition for economic growth is the restocking, rebuilding, and
overall restoration of natural capital. These efforts will enable the economy to go beyond the
current limits that prevent it from building on and sustaining upward trends. In this regard, the
following issues ought to be examined and addressed:

      the lack of an inventory of depleted resources and the absence of market signals to
       indicate the onset of depletion;
      the country’s low level of scientific interest in assessing environmental conditions and
       altering them to mitigate or reduce the effects of droughts, floods, and global climate
       change at local levels;
      the absence of systematic links between natural resource users and providers, standards
       for the provision of services, and institutional arrangements/ resource management
       agreements on payments, compensation, and mediation.

At least two other sufficient conditions should be satisfied to ensure sustainable growth. The first
is proactive linkage between the natural resource base/agriculture and manufacturing through the
development of small- and medium-scale industries oriented to export markets. The second
condition is to break the cycle of poverty by investing in human capital – in other words, prevent
poverty’s extended reproduction by educating poor youth.

The fulfillment of the necessary and sufficient conditions for sustained economic growth in the
Philippines requires the institutionalization of a liberalization framework and in tandem with a
strong state that can make its underlying principles work. While seemingly contradictory, a
strong, market-oriented state is needed to protect and restore the environment to achieve long-
term economic sustainability even as it enables capital to flow freely. It is needed to mobilize
resources for safety nets and human capital formation, to mediate conflict among competing
interests, to set and enforce standards for sustainable resource use and environmental
management, and to build the necessary physical/social infrastructure and institutions for long-
term development.

Strategic Interventions and Economic Governance
Despite its many challenges, an economic policy framework that highlights fiscal discipline,
trade and financial liberalization, competitive currencies, privatization, and deregulation is still a
necessary goal. However, as Rodrik (2003) correctly argues, this framework does not correspond
neatly to specific sets of policy packages that are universally applicable. Rather, there is a need
to creatively operationalize and package these principles into “institutional designs that are
sensitive to local opportunities and constraints.” Furthermore, sustaining economic growth
requires institutional arrangements that would make the economy resilient to shocks.
The design and construction of these institutional arrangements entail a strong, market-oriented
state capable of mobilizing resources and potential collaborators. However, the Philippine state
at this time is neither strong nor market oriented. It is beset by weak political institutions and a
political culture that denounces corruption yet tolerates it as a way of life. De Dios and Ferrer
(2001), citing O. D. Corpuz’s work in 1965, trace the disproportionate role of corruption in the
Philippines to the structure of Philippine politics and economy. Corpuz cited patronage at both
the local and national levels, lack of information among the majority of Filipinos due to poverty
and ignorance, the manipulation of government by powerful vested interests, the entrenchment of
a stratum of political opportunists and big money politics, and a political system used as means
of wealth accumulation through the manipulation of electoral politics.

The costs of corruption to the economy are many. For instance, the granting of government
concessions or unfair contracts denies the government fair market value for the resources under
its control and the positive use of potential earnings for public purposes (Virtucio and Lalunio
2001). Corruption thrives not only because of willful collusion between government agents and
contracting parties, but also because of the weak regulatory capacity of the state, which allows
scams to proceed unchecked (Pascual and Lim 2001).

The high ranking of the Philippines on the international corruption scale highlights the need to
strengthen state institutions. The consequences of the weak state are seen in a lagging economy
and a degraded environment that precludes sustainable development. A strong state is needed
both to establish infrastructure for the market to operate and to preserve the nation’s natural
resources from further degradation by vested interests. But even more than creating
infrastructures and regulating natural resource extraction, the state must assume responsibility for
economic governance – the creative balancing of market operations and social conditions,
including the promotion of civil society and its participation in the country’s economic life.

As a form of co-management or participatory decision-making, economic governance implies the
collective management of economic resources ranging from natural and environmental to
generated resources (tax revenues, state enterprise revenues, and public borrowings) and
distribution of their benefits. All stakeholders collectively – not government alone – must face
the tremendous challenges of achieving economic sustainability amidst environmental
degradation, of improving the present and future welfare of the people amidst poverty and short
growth spurts, and of addressing concrete imperatives. Such imperatives are numerous, including
financial instability arising from short-term portfolio capital movement, the debt burden, lack of
local entrepreneurship, and declining competitiveness.

Economic governance is undoubtedly difficult to establish. It requires consensus on the nature
and value of resources – the explicit economic and social objectives to be realized in resource
allocation and use, as well as norms and decision-making mechanisms for the determination of
priority and alternative uses. To illustrate: in the use of state resources, government revenues and
savings, external funds, rents, and surplus, there might be a stated preference for the following:

      the use of external resources to finance investment rather than consumption, or long term
       investment growth rather than short-term investment and consumption growth;
      the promotion of steady export growth to exceed import growth;
      the avoidance of short term debt as a source of funds;
      improvement in the country’s ability to service external liabilities;
      the provision of benefits for a greater rather than a fewer number;
      programs and projects that address chronic and intergenerational poverty (education
       targeting the poor);
      the institution of tax reform to generate fiscal balance, encourage efforts to increase
       domestic savings, and reduce dependence on foreign debt;
      the provision to firms of long-term credits to sustain private investments through different

With an orientation toward social goals, economic governance requires a monitoring system to
verify whether immediate and strategic goals are being realized and a mechanism to provide
incentives and induce movement towards their realization. Moreover, mechanisms for defining
rights and duties of stakeholders and for resolving conflicts among them must also be in place.

Economic governance is a relatively unexplored concept, so this economic assessment will
conclude with an illustration in a concrete context. This allows not only the weaving together of
the imperatives of market, environment, state, and democratization, but also allows the
assessment to end on a hopeful note.

Economic governance can be concretized at the micro-level in the management of watersheds,
the restoration and natural functioning of which are critical to the achievement of sustained
economic growth. The illustration is a way of mapping concrete ways in which government can
proceed in addressing the country’s economic predicaments in collaboration with various groups.

The Case of the Degraded Watershed and the Institution of User Fees
A watershed performs many economic and environmental functions. Apart from the production
of water, food, raw materials, and other resources, the watershed is a carrier and regulator. Under
undisturbed or stable conditions, the regulation functions are benign, providing beneficial
environmental services: determination of local climate conditions; prevention of runoffs or
floods; maintenance of dry season flows; control of soil erosion and sedimentation; maintenance
of water quality; topsoil formation and soil fertility maintenance; groundwater recharge; and
regulation of the water table. Because these environmental services are free, the uncompensated
benefits derived from them constitute Nature’s positive externalities.

When watershed conditions deteriorate, however, the natural benign services they render become
scarce, certain regulation functions cease to operate fully, and economic damage and loss is the
result. The continued economic use of a degraded, unstable environment without mitigating
measures exacerbates the situation, further diminishing environmental services and causing more
negative externalities.

The application of an environmental user fee (EUF) policy for watershed services has at least
three different objectives, corresponding to particular modes of implementing user fees:

      The EUF is a means to discourage or penalize present and future activities that cause
       negative externalities.
      The EUF is an expression of the positive value of the watershed’s benign regulation
       functions. The payments made by watershed service users become, in effect,
       compensation for the use of currently free, beneficial environmental services.
      The EUF generates resources that may be used to encourage activities that enhance
       positive externalities. Alternately, the resources may be pooled and set aside as an
       environmental fund to finance the protection of the watershed. Or the environmental fund
       might be used for the restoration and improvement of the watershed’s capacity to provide

A number of conditions, however, constrain the valuation, compensation, restoration, and
sustainability of the beneficial services of the watershed (Bautista 2003). The enunciation of a
user fee policy requires addressing these constraints. The following critical steps must be
undertaken before a user fee system can be implemented.

First, environmental education is fundamental to the promotion of an EUF system. It is
imperative to disseminate information on the current state of environmental services and to
heighten public awareness of the complex natural processes that generate concrete environmental
services and the impact of particular human activities on the watershed’s regulation functions.
People should know the importance of particular services to specific groups, the provisioning of
particular inputs or desirable production conditions by the environment, the effect of the absence
of these services on economic production and incomes, and the actions that need to be taken.

Moreover, environmental education and economic literacy are necessary to address the “free
rider” mentality – the unwillingness of resource users to pay for environmental services. Some
farmers do not currently pay the irrigation service fee, while private commercial well owners
resist payment for raw water extraction, partly because they have become accustomed to free
environmental services. The object of environmental education and economic literacy is to create
willingness among environmental service users to pay for the services they receive.

Second, the environmental service in demand, as well as the groups demanding it, ought to be
identified and the latter made to value the service. Table 23 provides a list of beneficiaries or
demanders of particular environmental services, as well as their potential human agency
suppliers. The value of these services – the result of complex, natural, environmental processes
that may not be tangibly felt – is not immediately apparent. Demand itself seems only to be
apparent when a particular service is in short supply, resulting in inadequate water or irrigation
services, excess runoffs, unstable or declining soil quality, river pollution, or fishery depletion. In
other words, the poor state of an environmental service underlies its demand. Methodologically,
watershed services may be valued in terms of their future loss or the cost of damages due to their
unavailability or degraded state.

Third, the demand for environmental services can be made more apparent if they are represented
as tangible products, such as regular stream flows, water reservoirs, erosion or flood controls,
improved/unpolluted water quality conducive to fish growth, and soil moisture. For these
potential commodities whose production must be ensured, potential suppliers must be identified.
In the absence of a market or an immediately identifiable producer to ensure an adequate supply
of particular environmental services, the supply side of the market can only be initially formed
when potential suppliers have expressed willingness to become service providers.

Moreover, it is necessary to specify the activities that are required in the production of
environmental services. These activities must not only be conceptualized, but organized and
implemented as an arrangement, technology, project, or contract. For instance, a watershed
protection contract entails a combination of the best land resource use and management
practices, while an arrangement for soil and water quality improvement consists of reforestation
projects, upland farm practices, land techniques, river protection and monitoring, and waste
disposal methods.

The set of required activities guaranteeing the provision of environmental services are similar to
command-and-control “standards.” They explicitly set allowable conditions or requirements for
the provision of environmental services, the so-called positive externalities. Corollary to these
requirements, the disallowable conditions – activities to be avoided or abated because they can
damage the watershed’s regulation functions – may also be included in the arrangement or

The explicit enumeration of desirable requirement activities and those to be avoided serves as a
basis to define the terms, rights, and responsibilities of the parties involved, as well as the mode
of compensation. Upland or upstream providers are compensated or rewarded when they meet or
exceed minimum standards for land use. If they do not meet the standards or provide the inputs
for environmental service production, support must be given in the form of extension services,
technical assistance, and perhaps subsidies under established priority conditions.

Fourth, the state of the environment and the country’s level of knowledge regarding the
generation of environmental services determine the required activities or standards to be
established. Given the extent of environmental degradation in the Philippines, the arrangements
and projects to be promoted must be inspired by a more developed science. Specifically, there is
a need to develop the science and practice of improving local climate conditions, mitigating the
damaging effects of natural disturbances, and restoring and enhancing nature’s productive
capacity. Successful experiments in soil quality and water yield improvement and conservation,
agro-forestry, local climate change through vegetation change, reforestation for land stability,
water generation, flood and wind protection, and other measures must be replicated and

Fifth, in the absence of a market or other natural coordination between providers and demanders
of environmental services, a third party is needed in the establishment of an EUF system for
watershed services. The third party would be responsible for identifying, meeting, and securing
commitments to pay from demanders of environmental services. As long as conditions of non-
excludability and non-rivalry hold, there will be no incentive on the part of individual consumers
to pay unless, as a group of beneficiaries, they willingly agree to pay for the environmental
services they use. It is critical to obtain the commitment of key beneficiaries in the river basins,
such as the National Irrigation Authority, the National Power Corporation, the Water District, the
Bureau of Tourism, large plantations, and large city and municipal governments. Public
enterprises and government departments are the single most important buyers of watershed
services who have a clear interest in maintaining the quality and flow of water.

The third party would also be responsible for identifying potential local suppliers of particular
environmental services, drafting contracts and arrangements, and establishing consensus among
demanders and suppliers on the proposed arrangement. It is in the proposed arrangement
between environmental service consumers and providers that the user fee and the rights and
duties of each party would be formalized. But before this stage is reached, the third party would
act as a mediator of conflicts between demanders and suppliers, and among these groups. For
instance, conflict between upland farmers and downstream irrigation associations and provincial
water works, or among the irrigation association members, must be resolved through conflict
mediation before any agreement can be formed.

Another necessary condition is the provision of incentives and funds for investment in order to
address the disincentive and under-investment problem that accompanies the free-rider mentality
and absence of property rights. The crucial task of the third party here is to pool together the
financial commitments of key public enterprises and government agencies as seed money for the
establishment of an environmental fund.

Who can undertake all the above functions? With its resources and influence at the local level,
the provincial government is in the best position to organize prospective environmental service
providers and demanders, serve as mediator, provide and guarantee property rights, solicit seed
money for the environmental fund, and provide investment incentives. As the third party, the
local government or state agency is, in effect, the instrument of co-management.

Summarizing some of the above requirements, Table 23 identifies human providers, such as
upstream communities, establishments, local government units or environmental agencies. Some
of these local agencies may not yet be in operation or are currently ineffective. Consisting of
government agencies, local government, individuals, occupational groups, and private business
establishments, the beneficiaries together with prospective service providers comprise the
potential market or co-management arrangement that would formalize the user fee, standards,
and the system of rewards and support. With collaborative policies and actions converging
around the common good, a partnership between the state, local agencies, organizations, and
communities is critical to establishment of the environmental user fee system.

Germelino Bautista is professor of economics and former director of the Institute of Philippine
Culture at Ateneo de Manila University.


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