Philippines - Financial and Corporate Sector Adjustment Loan Project

Report No. PID7445 Project name Philippines-Contractual Savings and... Housing Finance Reform Loan Region East Asia and Pacific Region Sector Finance Project ID PHPE64563 Borrower(s) Republic of the Philippines Implementing Agency Department of Finance Environment Category C Date PID Prepared June 29, 1999 Projected Appraisal Date February, 2000 Projected Board Date July, 2000 Background 1. The proposed Contractual Savings and Housing Finance Reform Loan benefits from considerable upstream preparation work which was undertaken at Government's request to help it address the issues of long-term savings mobilization and allocation, old-age pension security, and sustainable housing finance, particularly for low income housing. The Bank launched two in-depth studies of the contractual savings and housing finance sectors that, together with missions fielded in 1998, yielded to the reform proposals submitted in a report to the Secretary of Finance in July 1998. In September 1998, the Philippine authorities requested Bank financial support for the proposed operation. Taken together, these reforms are designed to complement the banking sector reforms that are being implemented under the Banking System Reform Loan (BSRL). 2. The proposed reform program aims at developing sound contractual savings and housing finance institutions (CSI and HFI) to provide equitable and sustainable security to the insured, and affordable housing to low-income families. The proposed reforms will encourage the development of long-term savings and capital markets, including the mortgage bond market. Objectives 3. Key principles of the reform program would be to reduce cross-subsidy, to improve transparency and targeting of social assistance programs, to ensure adequate and sustainable old-age security and low income housing programs, to reduce distortions in the labor market, to further develop the capital markets, to increase private sector participation, efficiency and liquidity in the housing finance market, and to ensure the solvency of and fair competition among CSIs and HFIs. Description 4. Reforms in the contractual savings market include policies to: - Develop a more equitable, efficient, affordable and financially sustainable  retirement income system. - Improve compliance to and financial position of the social security system. - Improve investment policies of the social security agencies. - Develop sound private pension funds. - Strengthen solvency and competition in the insurance and pre-need industry. - Reduce the Government of the Philippine contingent liabilities. 5. Reforms in the housing finance market include policies to: - Develop the primary and secondary mortgage market. - Rationalize the Government housing finance institutions. - Develop a new strategy for socialized housing. - Strengthen the institutional development. Financing 6. Loan Description. A fast disbursing floating rate, single currency loan (SCL) in US dollars in the amount of US$200 million is proposed at this time. The loan would have a first tranche of US$100 million. The second tranche would be a floating tranche with two independent components of US$60 million and US$40 million for the contractual savings sector and for the HF sector, respectively. This would allow for the possibility of independent disbursements of the loan amount associated with progress in program implementation in each sector. Board approval is planned for July 2000 and second tranche release, in both or any of its two components, is planned for July 2001. Benefits and Risks 7. Benefits. The proposed reforms in contractual savings aim at ensuring the long term solvency of the retirement system including the rationalization of its different components into three complementary pillars. The proposed reforms are likely to have a profound impact on the provision of long-term funds and to foster an enabling environment for financial market development, including capital markets, and housing finance. The proposed reforms in housing finance would re-allocate the risks and responsibilities between the public and private sector, reduce the financial burdens that have hitherto been borne by the public CSIs, promote the development of primary and secondary mortgage markets, attract greater liquidity to the housing finance market, and increase the efficiency of subsidy mechanisms in support of the Government's shelter objectives. These measures would promote depth and liquidity in the market and reduce the risks associated with excessive reliance on the banking system for financial intermediation and term transformation. 8. The reforms are opportune because public CSIs are still accumulating reserve funds and not yet in crisis. Thus, the transition to a reformed pension system will be more manageable and could be phased in gradually. More importantly, reforming the system now will send the right signal to markets. The Philippines will be seen as planting the seed to start resolving part of the source of the recently regional financial and economic problems by increasing the proportion of long-term savings in the system, and hence, contributing to build a more resilient economy; one that would be less vulnerable to interest rate and demand shocks with a more stable macroeconomic environment. Obviously, these improvements will also contribute to accelerate - 2 -  growth. This, together with the improved safety net for the elderly and affordability to low income housing, should provide momentum for a significant reduction in poverty, therefore, helping to reverse the recent increasing trend in income inequality. 9. The proposed reform program would have a negative short-term impact on the fiscal accounts, but it would reverse to a positive effect in the long run. The short-term negative impact is due primarily from the provision of transparent subsidies from the budget. Two budget allocations would be needed in order to fund: (i) the proposed safety net for the old poor; and (ii) the lump sum transfer program to improve affordability of housing to low income people. On the other hand, the proposed tax reform would be basically revenue neutral. In the long run, however, the program will substantially reduce contingent liabilities by improving the solvency of CSIs and HFIs. Finally, development of CSIs and HFIs would accelerate growth, improve income distribution, reduce the informal markets and increase plan coverage and compliance. Accordingly, tax revenue would increase. The proceeds of the proposed loan would then provide funds to bridge the budget needs. 10. Risks. The Philippine economy remains vulnerable to a sustained deterioration in the regional environment, which would exert added pressure onto a fairly fragile external position and adversely affect the budget, financial markets, corporate profitability and debt servicing, repayment capacity in housing finance markets, and both the contributions to and investment returns of CSIs. To mitigate these risks, the Bank is engaging in close monitoring of the macroeconomic situation, coordinating its adjustment loans with the IMF program, and administering and coordinating technical assistance from ASEM, Japanese PHRD, ADB, and USAID sources to support the development of early warning systems, contingency planning, and strengthened capacity for supervision. 11. The complexity of the proposed reforms is considerable because it covers two sectors and requires enactment of several important pieces of legislation and the closure of some institutions while reforming and strengthening others. Although such complexity is easily accommodated by the particular loan design involving a second floating tranche, significant preparation, co-ordination and technical assistance, together with strong leadership and a public relations and information campaign will be needed. Significant progress has been made to build consensus on housing finance reforms, and the newly appointed Presidential Retirement Income Commission and the Department of Finance Contractual Savings Task Force represent important steps to achieve consensus in this area as well. The Bank maintains an on-going dialogue with the two working groups that emphasizes the benefits of reforms in these areas, as well as facilitating continued ASEM and donors grant assistance to build consensus and momentum for these essential reforms. Poverty Category 12. Not applicable. Environmental Aspects 13. In accordance with the Bank's Operational Directive on Environmental Assessment (OD 4.00, Annex A), the proposed operations has been placed in Category "C" and will not require an environmental assessment. -3 -  Contact Points: The InfoShop The World Bank 1818 H Street, N.W. Washington, D.C. 20433 Telephone: (202) 458-5454 Fax: (202) 522-1500 Resident Mission Philippines The World Bank Mirabelle S. Zonaga 23/F, the Taipan Place Bldg. Emerald Avenue, Ortigas Centre Pasig City, Philippines Telephone: (63-2) 637-5855 Fax: (63-2) 637-5870 Department of Finance 5-Storey Building BSP Complex A. Mabini Street Manila, Philippines Tel: (63-2) 525-0380 Fax: (63-2) 522-3987 Note: This is information on an evolving project. Certain components may not be necessarily included in the final project. Processed by the InfoShop week ending November 5, 1999 - 4 -