Philippines Macroeconomist/Strategist

Jun Trinidad

Macroeconomics

Government estimates a potential net revenue gain of Php92bn from the approved TRAIN (Tax Reform for Acceleration and Inclusion), much of which will be earmarked for infrastructure funding over the next five years. The income tax cut was retained as tax-exempt earnings were raised to Php250k with its revenue dilution offset by excise hikes on petroleum products, automobiles, and sweetened drinks.However with VAT's exemption threshold raised to Php3mn annual sales (small enterprises) but other exemptions kept largely intact contrary to the Finance proposal, the TRAIN's revenue potential fell short of the House version (Php120bn) but still higher than the first Senate version (Php60bn) despite new measures introduced (e.g. coal tax hike).TRAIN’s potential revenue impact allows the government to stay ambitious in its infra projects (mainly road networks) funded out of the budget. Public investment projects in the budget and funded by ODA (official development assistance) sources will breathe life to the official mantra of ‘build, build, build’ and spur more private investments, generate needed jobs, and support higher growth.  Windfall income effect from the tax cut particularly for young workers can add a potential +0.7% to consumption growth. Excise hikes in diesel/gasoline will not necessarily offset the income tax cut gains. According to Finance, over 50% of retail gasoline is consumed by the top 10% income group with lesser petroleum demand from lower income groups. However upside inflation risk owing to excise hike pass-through effects is practically certain as the government expects a +0.9% rise in inflation (based on the Finance version) but likely to taper off in the succeeding years.TRAIN’s revenue potential will put pressure on government’s ability to recycle these new cash flows into productive spending that bodes well for growth and employment. Hopefully absorptive capacity constraints, e.g. right of way issues, etc., that comprise familiar and recurring implementation bottlenecks, will not pose severe project delays that dampen private sector expectations and enthusiasm over the projects’ positive effects. Buoyant demand underpinned by fiscal catalysts funded by TRAIN and ODA reinforces the current account (C/A) shortfall risk although limited to 0.5%-1.5% of GDP in my view. C/A deficit risk spawns queries on debt supply risk. Local capital markets may be cautious in accommodating more fiscal debt supply risk after seeing TRAIN’s net revenue potential short of House or Finance version. And with a medium-term infra spending target of roughly Php1tn annually supported by new ODA debt, the fiscal debt sustainability ratios will be given new emphasis. Reversal of the current downtrend of the fiscal debt ratio to GDP could result from the government's ambitious infra spending program although with TRAIN and other upcoming tax reform packages, a fiscal debt crisis is unlikely. Despite its transitory nature, CPI’s upside trajectory owing to the excise hikes coupled with a strong demand outlook makes for a compelling backdrop for the BSP to hike its policy rates by 50bps in 2H18. Lacking strong C/A deficit pressures (or a crisis) alongside material PHP weakness, a very hawkish BSP position that will drive real interest rates to +100bp, is unlikely. Guiding real interest rates to zero or in the slightly negative range as inflation probes 4% and higher, will be the prevailing bias for adjustment in my view.

Government estimates a potential net revenue gain of Php92bn from the approved TRAIN (Tax Reform for Acceleration and Inclusion), much of which will be earmarked for infrastructure funding over the next five years. The income tax cut was retained as tax-exempt earnings were raised to Php250k with its revenue dilution offset by excise hikes on petroleum products, automobiles, and sweetened drinks.However with VAT's exemption threshold raised to Php3mn annual sales (small enterprises) but other exemptions kept largely intact contrary to the Finance proposal, the TRAIN's revenue potential fell short of the House version (Php120bn) but still higher than the first Senate version (Php60bn) despite new measures introduced (e.g. coal tax hike).TRAIN’s potential revenue impact allows the government to stay ambitious in its infra projects (mainly road networks) funded out of the budget. Public investment projects in the budget and funded by ODA (official development assistance) sources will breathe life to the official mantra of ‘build, build, build’ and spur more private investments, generate needed jobs, and support higher growth.  Windfall income effect from the tax cut particularly for young workers can add a potential +0.7% to consumption growth. Excise hikes in diesel/gasoline will not necessarily offset the income tax cut gains. According to Finance, over 50% of retail gasoline is consumed by the top 10% income group with lesser petroleum demand from lower income groups. However upside inflation risk owing to excise hike pass-through effects is practically certain as the government expects a +0.9% rise in inflation (based on the Finance version) but likely to taper off in the succeeding years.TRAIN’s revenue potential will put pressure on government’s ability to recycle these new cash flows into productive spending that bodes well for growth and employment. Hopefully absorptive capacity constraints, e.g. right of way issues, etc., that comprise familiar and recurring implementation bottlenecks, will not pose severe project delays that dampen private sector expectations and enthusiasm over the projects’ positive effects. Buoyant demand underpinned by fiscal catalysts funded by TRAIN and ODA reinforces the current account (C/A) shortfall risk although limited to 0.5%-1.5% of GDP in my view. C/A deficit risk spawns queries on debt supply risk. Local capital markets may be cautious in accommodating more fiscal debt supply risk after seeing TRAIN’s net revenue potential short of House or Finance version. And with a medium-term infra spending target of roughly Php1tn annually supported by new ODA debt, the fiscal debt sustainability ratios will be given new emphasis. Reversal of the current downtrend of the fiscal debt ratio to GDP could result from the government's ambitious infra spending program although with TRAIN and other upcoming tax reform packages, a fiscal debt crisis is unlikely. Despite its transitory nature, CPI’s upside trajectory owing to the excise hikes coupled with a strong demand outlook makes for a compelling backdrop for the BSP to hike its policy rates by 50bps in 2H18. Lacking strong C/A deficit pressures (or a crisis) alongside material PHP weakness, a very hawkish BSP position that will drive real interest rates to +100bp, is unlikely. Guiding real interest rates to zero or in the slightly negative range as inflation probes 4% and higher, will be the prevailing bias for adjustment in my view.

TRAIN's Arrival