IISS Fullerton Lecture - The Philippines and ASEAN: The Road to 2015 and Beyond by Sec. Cesar Purisima February 7, 2014 Thank you, Dr. Huxley, for inviting me to deliver this lecture. The Philippines desires to follow in the footsteps of Singapore, an exemplary nation that embodies the dividends that good governance can bring. Hence, since Philippine President Benigno Aquino III took office in 2010, he has taken on an agenda of good governance which has been the key to the countrys recent economic resurgence. Good Governance in the Philippines In 1965, when Singapore had just started out as an independent country upon its separation from Malaysia, the Philippines was already quite advanced. Data show that the total exports of the Philippines at that time were more than the total exports of Korea and Taiwan combined. However, after around thirty years of mismanagement, we have lost our way from being the second largest economy in Asia (next to Japan) to being one of the underdeveloped nations in the regional bloc. In 2010, we have finally seen a change in the Philippine destiny Benigno Aquino III, with his staunch pursuit of good governance, was elected President. Ten years before his administration, the Philippines grew at an average of only 4.5% despite rosy prospects in the global market. However, just three years into his term, President Aquino has already taken the average growth rate to 6.3% even despite global upheavals. In 2013, we grew at 7.2%, the countrys second highest annual growth rate under the current administration. This puts us just behind China, the fastest growing economy in Asia. Although the Philippines has had sixty straight quarters of growth since the end of the 1997 Asian financial crisis, those levels of growth were still insufficient. They still were not enough for a country with a population growth rate of over 2% a year. That is why we needed to move growth up a notch, which is what the current administration has been aiming to do. Many do not see the potential that good governance can bring to a developing nation, perhaps because its benefits can only be seen at the margins. For example, in the case of the Philippines, better governance has allowed us to gain more confidence from the financial markets. Increased confidence has resulted in lower borrowing costs not only for the government but also for the private sector, such as households and businesses. Because of this, we have reduced interest payments from over 30% of our budget, right after the 1997 Asian financial crisis, to now just 16.6%. Higher interest savings have enabled us to redeploy a significant portion of our budget to more productive areas. The President has dedicated that to investment in our people through increases in spending of education, healthcare, and safety nets for the poorest of the poor. The Philippines is the youngest country in Asia with an average age of twenty-three. However, for us to realize the demographic dividend, we need to ensure that our people are educated and trained to be productive economic participants of the Philippines and ASEAN. That is the reason why one focus of this administration is investing in people (the other focus being investing in infrastructure). Another gain of better governance is that our own people have become more confident in the future and in the Philippines. We have seen improved compliance with tax laws, leading to an improvement in our tax effort (tax revenues as a percentage of GDP) by one percentage point. This may seem like a small percentage but imagine the significant amount of funds that we can now allocate to more productive investment expenditures. Imagine the bigger space we have created to enter a virtuous cycle of fiscal management. For the first three quarters of 2013, our tax effort has stood at 13.7%. However, we are hopeful that we can achieve 16% at the end of the Presidents term in 2016.

Confidence in the future and in the Philippines encourages people to start investing long-term. Whereas borrowing rates used to be at double-digits, they are now at much lower rates and at fixed rates for longer terms. People are now able to buy houses for their families since invest ing has become more affordable. This clearly shows that benefits of good governance trickle down to even individual households. Better governance also benefits our businesses. In the past, they were content with two-, three-, or five-year plans. With a change in outlook, dynamics, risk profile, and perspective, they are now committing to longer-term projects which are now more attractive from their standpoint. For example, companies that were never involved in public-private partnerships are now investing in such partnerships developing infrastructure. More and more companies are now entering the hospitality industry and are making major strides in that area. These examples explain President Aquinos principle of good governance is good economics. Even despite the difficult global economic environment, we have continued to reap benefits of growth because of our main drivers, namely consumption, as spurred by our people, and infrastructure, spurred by investment. Both these drivers are sustainable since, unlike resource-dependent emerging market countries, the Philippines holds a strong current account position. In fact, our reserves continue to grow from historic high to historic high. Another assurance of sustainability is our well-managed fiscal situation. Our deficit is less than 2% of GDP and our debt-to-GDP ratio is down to lower levels. This is reflected in the market premiums of Philippine credit default swaps (CDS), which is another measure of investor preference. We are tracking that of Malaysia, an A-rated credit country. However, there is a sentiment against emerging markets wherein individual countries are lumped together as if there is only one kind of emerging market country. As a result, the Philippine peso has been depreciating. I believe there is no fundamental reason as to why this depreciation should occur. I would even say the peso is undervalued given the Philippines impressive growth and macroeconomic environment. Inflation may have experienced an uptick, because of more expensive imports due to the depreciation of our currency, but it is still within the policy range of the government. The Philippine president only has one six-year term. When President Aquino leaves his post in 2016, we want to ensure that the achievements we have made in the past three years will be sustained by the succeeding administration. Hence, our challenge now is to institutionalize changes. One way is through legislation we are changing laws, making it more difficult to regress to old habits. Let me give a few examples on this. We have been protecting domestic airlines in our country and yet we have been yearning to promote tourism; clearly, these are conflicting objectives. Hence, early on in his term, President Aquino opened up the skies outside of Metro Manila where the true beauty of the Philippines can be found. In fact, we now have Middle Eastern airlines operating daily flights to Clark International Airport, just north of Manila. Another example of legislative reform in the administration is the passing of the Reproductive Health Bill in 2012. After sixteen years of deadlock between the government and other groups, we have finally made significant progress through this passing of the bill. Our strong current account position and fiscal situation can support our consumption and infrastructure investment, which are our primary drivers of growth. Since the Philippines has lessened its dependence on exports and things beyond our control, we are confident that we can sustain our record-high growth rates for more years. The Upsides of the Philippines When I look at the Philippines, I see a country with more upsides than downsides.

Earlier on, I mentioned resource-driven countries as a comparison. In fact, the Philippines, the fifth most mineralized nation in the world, was once a resource-driven country. In the mid 60s, copper was at very high levels. We were a major exporter in 1965 because of the largest copper mines that you can find in our country. However, when you analyze our growth in 2013, you will see that the contribution of mining activities went down by around 12%. The reason for this was we slowed down mining by no longer approving new exploration permits. The government wanted to make sure that mining is done on a win-win and a sustainable basis. We also wish to create a map of the country which determines where we will allow or disallow mining. By the end of the year, we will make a new law identifying these Go and No-Go zones. For example, there is a group of islands in the west of the Philippines called the Palawan islands which McKinsey called to be a potential Maldives of the East. It has around 2,000 islands that are not only breathtaking but also rich in minerals. However, if you wish to tap the tourism potential in that area, you cannot have mining go hand in hand with it. In line with this, we also plan to mandate transparency in our extractive industries and improved profit sharing. When mineral prices rise again, which I believe will happen given that minerals are finite resources, hopefully mining activities can help contribute to an additional percentage to the Philippines annual growth. In fact, at the time when prices were quite high, a mining project down south of the Philippines was forecasted to have added at least one percentage to our growth every year. Another upside in our country is found in tourism. A country of Singapores size is getting more than fifteen million tourists a year, and yet the Philippines hardly gets about five million. If you look at the world map, you will notice that among all ASEAN countries, the Philippines sits at the center of the coral triangle. Another geographical advantage that we should capitalize on is that we are second to Indonesia in terms of length of coastline. Our coastline boasts about 36,000 kilometers of pristine beaches. In fact, ours and Indonesias (about 50,000 kilometers) are both larger than the United States coastline. Since President Aquino arrived, we have more than doubled tourist arrivals in our country. This is a vast improvement but we believe we are still just scratching the surface. Let me mention one of my pet projects aimed at encouraging tourism. It concerns the Post Office Building in Manila, which is as beautiful if not more beautiful than the Fullerton Building. Unfortunately, it is still a dilapidated post office. I hope one of these days we can bid this building out and develop it so we may attract more tourists to that area. We are confident that as we construct more airports and as our businesses build more facilities, we will prove to the world that indeed it is more fun in the Philippines. We are very excited about the potential of tourism in our economy. Let me talk about agriculture. When President Aquino took office, we were the worlds number one rice importer, and yet there really is no reason why we should take this number one spot. We may be an archipelago but we do have very fertile land, with four million hectares devoted to rice production. The problem lies in the average yield it is only at around four tons per hectare, which is less than what we need. Through better irrigation, better use of technology, and a better location (i.e. moving away from disaster prone areas), we have been able to reduce the land area necessary to plant rice. As we continue to make improvements in irrigation and infrastructure of agriculture, we believe that this sector can help accelerate development in the country. Thirty percent of our people are involved in agriculture, and yet it only accounts for twelve percent of GDP there is a clear disparity. This is the reason why poverty is rampant in agricultural areas. Hence, I look at this potential in agriculture, in improving production efficiency and in uplifting those in poverty, as an upside. The southernmost part of our country, called Mindanao, is close to Brunei, Malaysia, and Indonesia. It is the second largest island of the Philippines, and an area that is not as often hit by typhoons. Mindanao offers so much potential for our country but unfortunately is hampered by a secessionist movement. That is why we are thankful that our President, through his exercise of political will, is about to conclude the peace agreement in Mindanao. In fact, we have signed and moved on to the next phase translating to

law. Once we do so, we will be able to unleash the potential of the region, which happens to be a fertile, developed, and beautiful land that is contiguous to other ASEAN nations. We are hopeful that once we turn these upsides into reality, we will be able to sustain growth rates of 7-8%. If we are to deal with poverty, we have to grow at those levels. ASEAN Integration One other upside for the Philippines is our proposed integration with ASEAN in 2015. I am very excited about what ASEAN can become if we all work together to make this economic community into a reality. If looked at as a single country, ASEAN will be among the top ten economies in terms of population, and probably among the youngest with an average age of twenty-seven years old. It is important to note that economies are about people. They are the ones who consume, travel, invest in houses, and have aspirations for their children. They are the engines for growth and that excites me. We are not only young; we are also increasing in prosperity. Disposable incomes across the region are actually increasing. The ASEAN is in the right place of the world for the next thirty to fifty years. An Ernst & Young study estimates that two-thirds of the worlds middle class will be from our region in Asia by 2030. Again, the young and the middle class are the drivers of growth. However, we cannot capitalize on these opportunities if we do not do the right things. In the case of the Philippines, we need to invest in educating our young people. We also need to open up and make doing business in the Philippines easier. Education without opportunities will result in the same challenges that the Philippines faces today where many of our people leave the country to work elsewhere. We can ease doing business in ASEAN countries by simplifying rules, investing in infrastructure, and increasing connectivity. However, these are key challenges for ASEAN because of the vast infrastructure and development gap between its member nations. We have both the richest and the poorest nations in the world. We are also not contiguous, giving us challenges in terms of geography. Obviously, connectivity is not just about physical connectivity. It is also about harmonizing standards and the regulatory environment. We may have not completely succeeded in this aspect but we have made progress. The Philippines has been in the electronics industry for the longest time although we have stayed in the lower end of the semiconductors industry. We have been told that this is not sustainable since the cluster is not complete. Fortunately for us, electronics was one of several industries that ASEAN integrated early. Now, our electronics industry is not just the Philippine electronics industry it is now part of the wider ASEAN electronics industry. We are moving semi-conductors from Manila to Penang or Singapore, as easy as moving goods within the US. We use a super green lane and electronic lodging, have harmonized forms, and have no duties. When you look at where ASEAN is now in terms of intra-ASEAN trade, we are only at about 25% of total trade. Keep in mind that we are now about to enter integration. In the case of the European Union, in 1992, they were already at over 60% intra-EU trade. By comparing the ASEAN situation with the European Union situation, you will see that there is still room for improvement. We need to trade more within ASEAN. I believe that encouraging trade involves not just participation of national governments, but more importantly, of businesses as well. Businesses will boom if ASEAN integrates successfully but this is not possible without their participation. A regal example is Nestl. When ASEAN was conceptualizing a single market, Nestl proposed a series of projects across ASEAN that will not be subject to tariff. The great

thing about this idea was that there were no losers. Nestl was specializing in each area of the ASEAN regional bloc. Companies should consider looking into that model, rather than the model of having a supersized facility in one area making everyone else a consumer. That is the challenge for the private sector to become a catalyst for integration itself. It will be a more daunting challenge for smaller sections of the private sector but this is where the government can step in to facilitate the sharing of information. Outside of the market for goods, ASEAN also has an opportunity for labor. In an integrated ASEAN, the Philippines will be the second largest in population and, I would think, the most mobile population. Therefore, opening up labor markets is going to be crucial if we are to realize the potential of economic integration. In the case of Singapore, Malaysia, and even Thailand, they are practically at full employment needing extra labor capacity to grow. For example, Thailand is going to Indochina to find labor resources. In an integrated ASEAN, mobility of labor will be important. It will be a challenge to trade without integration of financial markets, which is something we need to work on. For example, and maybe I am wrong, I am not aware of any ASEAN bank that has branches in all ten ASEAN countries. If we are to integrate, our banks must be at the forefront of opening up the markets since they are the ones who facilitate the flow of information. We should also have harmonization of regulatory standards, such as disclosure requirements, and of credit rating agencies. We have a credit rating agency in the Philippines and its counterparts in other ASEAN markets, but can you compare them as apples to apples? Integration of financial markets will be an essential step in supporting economic integration. In fact, the whole ASEAN region is a reserve surplus area. We actually create reserves and yet we send these abroad, outside ASEAN. Then, we have investment managers across the world who determine whether or not we deserve to receive our own money as investment. Somehow, the credit rating system depressed the rating of our region, increasing the risk premium our own money faces in coming back to our region. That is why I think it is important to recycle our own reserves as close to home as possible. However, that will not happen without integrating first these capital markets. Otherwise, no capital market would be deep enough and none will have the liquidity. One of our goals then must be to brand ASEAN as a distinct class of investment opportunities. Based on a study by the Asian Development Bank, infrastructure investments will need an estimated sixty billion dollars a year at least for the next ten years. When you look at the reserves of the region, we have that money, probably close to a trillion dollars in reserves, but none of which is easily accessible to fund infrastructure investments. That is the goal behind the ASEAN Infrastructure Fund administered by the ADB. It is still very small, with about half a billion dollars, but it is a start. We need a bold move among ASEAN countries agreeing to allocate, for example, 5% of reserves and working with the ADB or another entity to pool this into a bigger infrastructure fund. Infrastructure development will allow us to compete in a global environment as we increase the efficiency and effectiveness of our supply chains, at least infrastructure and process-wise. Although businessmen and women move easily across Manila, Kuala Lumpur, or Singapore, the rest of our population still see ASEAN as foreign. One way to address this is by integrating our educational systems and by having similar standards. Second, we can encourage schools to have cross-ASEAN relationships. Third, we increase cross-enrollment, perhaps through conscious funding for educational opportunities within ASEAN. Without knowledge or familiarity of our own region, it will be easier for the ASEAN youth to trade with Europe or the US since they have more information about them. ASEAN has potential, and 2015 is already less than a year away. However, I look at 2015 not as the time of integration but as a time of harmonization and convergence. True integration, I believe, is still quite far. It is essential to have time first for harmonization and convergence, so we can match expectations with reality to avoid frustrating one another. We have to accept the reality that the ASEAN way takes more time than the European Union way simply because the

member nations of ASEAN are more disparate and different from one another in terms of stages of development. We have to accept that although we can reap countless benefits from integration in the future, we have to strive much harder to achieve them. We have to ensure first that our institutions, our standards, and our people grow to be harmonized. For instance, we still do not have a common customs border, which will be a hurdle especially when the Trans-Pacific Partnership (TPP) becomes a reality. TPP, from where I stand, is a challenge to ASEAN centrality, and therefore a challenge to ASEAN itself. In TPP, there are four members who can benefit from a very large market and there is the large market that can get a backdoor through these four members. This is why I have been espousing the idea to the other non-ASEAN members of TPP that ASEAN should be invited as a TPP member, rather than individual countries. This is the case in the Regional Comprehensive Economic Partnership (RCEP) where the whole ASEAN region is the leader with six non-ASEAN countries as its partners. These partnerships outside our region are beneficial if we engage others properly. Therefore, the more conscious we are of one anothers challenges, the more likely we will succeed at integration, and the more likely we will reap the rewards of an integrated market. Dr. Huxley, I hope I was able to fruitfully share with you some of my thoughts on the Philippines and the ASEAN. For those who have not been to Manila, I hope you visit soon. It is the best time to visit since the typhoons are a few months away. The Philippines continues to grow but without the typhoons, we could have been growing faster. But unfortunately for us, this is the reality we face. This is my last point; all of us must start talking about how we can more effectively share the risk and the consequences of climate change. What happened to the Philippines last year with Typhoon Yolanda (Haiyan) is an ominous warning that climate change is real. Of the five deadliest typhoons in the Philippines, three happened in the past three years. I believe we should all work together to make sure there is risk sharing, not just through aid or assistance but through additional mechanisms. More than risk sharing, there must be a collective effort to face climate change whether the ASEAN has integrated or not. Since ultimately, all of us are vulnerable to these consequences. With one eye to the future and another eye to the benefits of the present, we should work together to strive for a united community. By working together, we can make the benefits of integration a more attainable reality.