On monetary sovereignty and government spending
By Karl Garcia
I am no expert in anything, I do have a master’s degree, but I claim to be a master of none. But I do consider reading blogs as part of my continuous learning process. I will try my very best to present a layman’s understanding of some technical ideas discussed in Joe’s blog. I’ll use comments from others and add my own thoughts.
Monetary sovereignty, a starting point to understanding constraints on growth
I was interested in the concept raised by blogger Micha about monetary sovereignty, and blogger Mary Grace Gonzales’ response. Here’s what they said:
Because the national gov’t is monetarily sovereign, it does not anymore need to collect taxes in order to spend. “
Mary Grace Gonzales:
I need to know more about a country being monetarily sovereign. My impression of our budget system that is being subjected to annual scrutiny and criticism by the likes of Leonor Briones and Ben Diokno (of the previous administrations) is that it is based on hard money, dependent on revenues collected by the BIR, Customs and other revenue generating agencies of the government. Various department and agencies are forever fighting for a bigger share of the pie, so to speak.
I always though about it as actual hard money, in bills and coins…hahaha…Stories told in my youth about sackful of Japanese money without value which are all over the country during the Japanese occupation are now coming to mind.
According to this: http://mmtwiki.org/wiki/Monetary_Sovereignty monetary sovereignty refers to the ability of a government (generally a national government) to control its own currency.
“A nation is sovereign in MMT parlance if it issues its own currency, floats it freely on foreign exchange markets and does not acquire financial liabilities that are denominated in a foreign currency.” — Bill Mitchell
To be sovereign, a government must have the ability to control the amount of money in existence at no cost and must owe its obligations in that currency. A country can still be monetarily sovereign if it chooses to adhere to certain kinds of domestic rules, for example a Debt Ceiling.
Many governments enjoy monetary sovereignty. The United States, Canada, Japan and the United Kingdom each control their own currencies (the United States Dollar, the Canadian Dollar, the Pound and the Yen). The governments of these nations can create money at will, at no cost. The U.S. Government, for example, can “spend reserves into existence.” The sub-national entities of these Countries (States and Provinces) are not monetarily sovereign.
My question is: “Are our financial liabilities denominated in a foreign currency.” If they are, then if we adhere to certain kinds of domestic rules, for example a Debt Ceiling, does that make us still monetary sovereign despite that?
It would be great if we really are truly monetary sovereign, then with proper control so as not to make our currency worthless, as you say, we can allocate more to LGUs so they can function as they should. I also agree that LGUs should not be lazy and just be dependent on their IRA’s share.
The growth constraint of foreign denominated debt
We discussed that, and then I decided to cut to the point. I asked: “With monetary sovereignty, can we spend on education and military, let us say, at 10 % of GDP?”
Here’s Micha’s response:
Short Answer :
As long as the bills are payable in Philippine Peso, ABSOLUTELY YES.
Not So Short Answer :
The reason there’s a qualifier in my short answer is that when the PNP and the AFP, for example, wanted to upgrade their military hardware they usually source it by importing and those are, as far as I know, always paid in foreign currency (usually US dollars). The Philippine national gov’t is not sovereign when it comes to dollar creation. We have to earn it. Remittances of OFWs are a major source. Our Bangko Sentral has dollar reserves for contingencies in foreign bills and obligations.
The same is true in the education department. If the spending is just for payrolls of employees or teachers, there’s no constraint in the ability of our national gov’t to write the check. But not when it comes to importing goods and services payable in dollars.
The practice of capping spending as a percentage of GDP is rather weird and unnecessary because of this:
GDP = gov’t spending + private sector spending & investments + (exports-imports)
It’s not rocket science. An increase in GS would correspond to an increase in GDP (measured, of course, in Philippine Peso).”
Great, then what is stopping the government from spending much more ambitiously? Especially if we build our own military gear instead of buy it in America with dollars?
Micha, who made the solution seem easy, then gave us a dose of reality, reminding us of our dollar denominated debt.
My simplistic suggestion was to convert all the dollar denominated debt to pesos and borrow domestically. Borrow from the citizenry.
Joe called it “War Bonds”
I recalled hearing about that from DILG secretary Rafael Alunan during the time of President Ramos. Here’s an excerpt from Alunan’s Facebook page:
“Dear Mr President,
Please cut the bureaucratic red tape so that you can, as Commander-in-Chief, buy ASAP the necessary capital assets and support systems for the Navy and Air Force needed to defend our country, protect our EEZ and uphold our nation’s dignity and honor. They’ve submitted their requirements and all it needs now is decisiveness to negotiate and buy what is needed from the most reliable suppliers.
You must front-load the purchase and construction of necessary infra to support those assets in the next 3 years. Buy brand new off the shelf if necessary, but if there are good bargains for existing assets for immediate transfer, please do not hesitate to grab these. Time is of the essence.
How will you pay for it in the next three years and beyond? May I suggest the following:
1. President’s contribution: part of Special Purpose Funds
2. Congress’ contribution: part of PDAF
3. Local Government’s contribution: part of IRA
4. Business Sector’s contribution: buy Patriot bonds; invest in joint-venture defense manufacturing.
5. People’s contribution: in partnership with telcos – 50 centavos on top of current commercial charges for every SMS, MMS or call.
6. Friendly nation’s contribution: ODA, soft long-term loans.
Please direct your ambassadors to obtain full access to modern assets and systems needed to meet our objectives.
Inang Bayan needs decisiveness now, and everyone in your team must focus on securing our nation’s future now.
Mabuhay ang Pilipinas!
Rafael M. Alunan III
P.S. Please clamp down as well on the potential corruption in the acquisition process”
If War Bonds or Patriot Bonds can be used to implement our long delayed AFP modernization, what is stopping us from spending for education and infrastructure and paying all our dollar denominated debt?
The need for better budgeting, built on good forecasting
When we talk of spending, the best starting point is the budget, in particular, the macroeconomic assumptions of the budget (Source Senate Economic Planning Office Publications). Here is an excerpt from the article:
The President’s 2013 Budget: the Macroeconomic and Fiscal Perspectives
“Careful attention to economic trends is essential in budget formulation. The size of the budget and the revenue and expenditure estimates are all dependent on how the economy will fare for the period in consideration. The GDP, for instance, can affect the government’s revenue targets. Higher GDP generally results in a larger tax base and consequently, higher revenue collections from the domestic market. Conversely, lower GDP normally leads to lower revenues. A higher-than-expected inflation rate, on the other hand, could lead to higher government revenues because of the increase in the price of the taxable goods. Meanwhile, changes in the foreign exchange rate as well as in the interest rate can affect both the revenues and disbursements. Moreover, the different macroeconomic variables are highly correlated and can significantly affect one another. The Bangko Sentral ng Pilipinas (BSP) for instance often look at the inflation rate when deciding on whether to cut, increase or maintain its policy rates. Changing interest rates, in turn, impact the currency values as higher interest rates attract foreign capital and cause the exchange rate to rise. Because of these interrelationships, it is of paramount importance that assumptions on macroeconomic indicators and forecasts about the economy are fairly accurate.
The macroeconomic parameters of the budget are deliberated on and determined by the Development Budget Coordination Committee (DBCC) and are stated in the Budget of Expenditure and Sources of Financing (BESF) published by the Department of Budget and Management (DBM).
While admittedly, macroeconomic forecasting is a difficult exercise as it is based on many variables and uncertainties, it is interesting to note that in the last thirteen years, from 1999 to 2011, not even once did the actual GDP growth rate fall within the growth range projected in the BESF. Actual GDP growth was lower than the forecast ten times and higher than what was targeted three times. During the said period, the inflation target was breached thrice–in 2004, 2005 and in 2008 which was the height of the global financial crisis. Except in 2008, actual T-bill rates are often lower than the assumed, indicating that the government spent less than what was programmed for domestic debt servicing for the said period. As for the foreign exchange rate, it was only in 2011 that the actual peso-to-dollar exchange rate fell within the government assumption. Actual exchange rate deviated from the target by an average of PhP3.01.
Why growing GDP is not so simple
Spending takes planning . . . a lot of it. It is also a pipeline of very complicated processes. How I wish it were a simple formula of GDP = gov’t spending + private sector spending & investments + (exports-imports). The formula says you spend a lot, have investments and have a trade volumes to consider.
Should we forget about the other macroeconomic factors? Should we forget about taxes, the procurement process, inter-agency transactions, the whole shebang that makes a simple formula into rocket science?
Here are two important excerpts from an article from the Senate Planning Office entitled “Plugging the Loopholes of the Philippine Procurement System”
“Several studies in the past referred to the Philippine public procurement system as a spawning ground for official corruption. By government’s own estimates, as much as PhP22 billion is lost each year in government spending due to corruption in procurement. Realizing the severity of the situation, a reform process was initiated, which resulted in the enactment of Republic Act No. 9184 otherwise known as the Government Procurement Reform Act (GPRA) of 2003.”
“Despite the passage of what is Philippine Procurement System referred to as a world class law– the Government Procurement Reform Act has not been enough to prevent notorious corruption cases from being committed. Issues that continue to plague the procurement system, including the harmonization of rules with the procurement system of foreign donors and creditors, alignment of the procedures in the case of Build-Operate-Transfer (BOT) projects, and the challenge of operationalizing and implementing the reforms in all levels of government need to be looked into and addressed promptly.”
Another hindrance is CORRUPTION.
We have good laws but still there are loopholes.
The processes attached to the releasing of budget and the procurement system are both momentum stoppers of government spending. Corruption is a drain. And how can we forget DAP, through which the Executive administration sought to speed up spending. It’s purpose was well-intended but it was killed by a Supreme Court decision (here is Justice Leonen’s elaborate concurring opinion). So we also have the bureaucracy getting in the way.
LGU’s are a part of the problem, not the solution
Then there are the realities, on the ground, in local cities and municipalities. Blogger DAgimas weighed in to explain how the government allocates revenue (IRA = Internal Revenue Allotment) and why it discourages LGU’s from working to improve services:
“I don’t think the tax generation or allocation is the problem. on the contrary, the internal revenue allotment makes LGUs lazy. they don’t have to generate their revenue. they don’t have to create jobs to generate revenue. and they don’t generate their own revenue to spend for public safety, education or social services which I observe in the USA as the primary reason for local government existence.
look, public safety and education are funded by the national government. so why do the LGUs still need allocation? they should generate their own revenue to spend on their pet projects?
that’s why I support the BBL but not the provision of revenue allocation from the national govt. all govt entities should have their own specific functions and the ability to generate their own revenue to fund their respective functions and have the power to enforce such functions.
some LGUs are rich like Makati and can function without that IRA. and since some functions are lodged on the national govt like education and public safety, their excess funds are used for the allowance of national govt employees like the courts, police, teachers
but for many LGUs, they just depend on the IRA. even if all the BIR collections in these LGUS are turned over to them, its not enough to fund their operations so its a blessing for them to have IRA”
DAgimus went on to state:
“LGUs get 40% of all BIR collections divided into how many populations and how big the area of the LGU
there’s nothing like it anywhere else in the world. on top of this allocation, these LGUs are not responsible for public safety and education. ( the national govt is responsible) only health and social services are devolved to them. and all property taxes are theirs.
in the US, public safety and education are the responsibility of LGUs. you don’t get allocation from the state and federal govts. you have to fund these services from your property taxes and sales tax etc.
if you can not maintain these services, you are going to revert to the county as unincorporated area.
that’s why the BIR chief said LGUs are lazy, even IMF/WB/ADB say that LGUs should find ways to raise their revenues and not to depend on this allocation from the national govt
My observation was that the local government code intended for the allocation to help the impoverished LGUs to eventually stand on their own. So we have good intentions but bad results. The LGUs can’t operate if there are no automatic appropriations of IRA. That is why they are requesting that Congress make appropriations automatic so they can set their priorities straight.
I understand some LGUS are on top of the mountains, and some are so isolated and remote that we hear the children travel hours on foot just to reach school. Some don’t even bother.
The rules for local taxation in the Local Government Code are very intricate. I argued that LGUs should generate their own revenues, but other problems must be resolved first.
So if we look at what ought to be simple and not rocket science . . . growing GDP . . . we find that the PROCESS of doing that requires at least some kind of science. Maybe it is called applied economics.
- Funding debt in pesos so that the choices between military spending and education are not so hard. Removing the constraint of foreign debt.
- Getting rid of the barriers to spending (improved budgeting and slow procurement processes) and the drain of corruption.
- Making LGU’s a part of the dynamic growth process rather than being along for the ride.