Trade, exchange rate, and agricultural pricing policies in the Philippines

8485 WORLD BANK COMPARATIVE STUDIES I The Political Economy of Agricultural Pricing Policy Trade, Exchange Rate, and Agricultural Pricing Policies in the Philippines Ponciano S. Intal, Jr. John H. Power s ~~~~%6   The Political Economy of Agricultural Pricing Policy Trade, Exchange Rate, and Agricultural Pricing Policies in the Philippines Ponciano S. Intal, Jr. John H. Power WORLD BANK COMPARATIVE STUDIES The World Bank Washington, D.C.  Copyright C 1990 The International Bank for Reconstruction and Development/THE WORLD BANK 1818 H Street, N.W. Washington, D.C. 20433 All rights reserved Manufactured in the United States of America First printing March 1990 World Bank Comparative Studies are undertaken to increase the Bank's capacity to offer sound and relevant policy recommendations to its member countries. Each series of studies, of which The Political Economy of Agricultural Prici;g Policy is one, comprises several empirical, multicountry reviews of kev economic policies and their effects on the development of the countries in which they were implemented. A synthesis report on each series will compare the findings of the studies of individual countries to identify common patterns in the relation between policy and outcome-thus to increase understanding of development andi economic policy. The series The Political Economv of Agricultural Pricing Policy, under the direction of Anne 0. Krueger, Maurice Schiff, and Alberto Valdes, was undertaken to examine the reasons underlving pricing policy, to quantify the systematic and extensive intervention of developing countijes in the pricing of agricultural commodities during 1960-85, and to understand the effects of suchi intervention over time. Each of the eighteen country studies uses a common methodology to measure the effect of sectoral and economywide price intervention on agricultural incentives and food prices, as well as their effects on output, consumption, trade, intersectoral trarnsfers, government budgets, and income distribution. The political and economic forces behind price intervention are analvzed, as are the effcrts at reform of pricing policv and their consequences. The findings, interpretations, and conclusions in this series are entirelv those of the authors and should not be attributed in any manner to the World Bank, to its affiliated organizations, or to members of its Board of Executive Direclors or the countries they represent. The material in this publication is copyrighted. Requests for permission to reproduce portions of it should be sent to Director, Publications Departnent, at the address shown in the copyright notice above. The World Bank encourages dissemination of its work and will normally give permission promptly and, when the reproduction is for noncommercial purposes, without asking a fee. Permission to photocopy portions for classroom use is not required, though notification of such use having been made will be appreciated. The complete backlist of World Bank publications is shown in the annual Index of Publications, which contains an alphabetical title list and indexes of subjects, authors, and countries and regions; it is of value principally to libraries and institutional purchasers. The latest edition is available free of charge from Publications Sales Unit, Department F, The World Bank, 1818 H Street, N.W., Washington, D.C. 20433, U.S.A., or from Publications, The World Bank, 66, avenue d lena, 75116 Paris, France. Ponciano S. Intal, Jr. is professor of econornics at the Universitv of Philippines, Los Banos; John H. Power is professor of economics emeritts at the Universitv of Hawaii; both are consultants to the World Bank. Library of Congress Cataloging-in-Publication Data InTal, Ponciano S. Trade, exchange raTe, and agricultural pricing policies in the Philippines / Ponciano S. Intal, Jr., John H. Power. p. cm. -- (The Political economy of agricultural pricing pol icy) Includes bibliographical references. ISBN 0-8213-1496-3 1. Agricultural prices--3overnment policy--Philippines. 2. Agriculture and state--Philippines. 3. Philippines--Commercial policy. 4. Produce trade--Philippines. I. Power, John H, II. Title. III. Series: World Bank comparative studies. Political economy of agricultural pricing policy. HD2088.75. 158 1990 338.1'8599--dc2O 90-32769 CIP  Abstract Economic progress as measured by real gross national product (GNP) per capita declined steadily in the Philippines between 1960 and 1985, thus helping to set the stage for the forced abdication of long-time president Ferdinand Marcos in 1986. Like many of the other developing countries examined in this series of comparative studies, the Philippines during this period sought to build up its industrial sector. As a consequence, the net result of the trade and sectoral policies adopted during the period was an undermining of the agricultural sector, an outcome reinforced by the significant changes in the world economy in the 1970s and first half of the 1980s. The country's fuel bill, for example, rose from 11 percent of the cost of imports in 1972 to about 25 percent in 1981. This study concentrates on measuring and analyzing the effects of trade and agricultural pricing policies on the agricultural sector up until 1985, with particular attention to rice and corn, the main food grains, and sugar and coconuts, the chief export crops. Although agricultural product exports as a share of all exports dropped from about 80 percent in the early 1960s to about 30 percent in the mid-1980s, about half the population still lived in the countryside and agrarian reform continued to be a matter of intense controversy. Among the principal findings of the study is that the various types of direct and indirect price intervention resulted in substantial reductions in sugar and coconut production, a very small negative effect on rice output,. and a notable increase in corn output. Another significant finding is that direct intervention by the government in the producer prices of sugar and coconuts had net negative effects that were exacerbated by indirect intervention (e.g., manipulation of exchange rates). This appears to account for the shift in political dissension from the rice- growing regions of Luzon to the Visayas, Bicol, and Mindanao, traditional sugar and coconut-producing regions. A characteristic of domestic politics during the period was emphasis on patron/client relations and personal loyalties rather than on the economic interests of larger groups. The study also reports on the effects of agricultural price intervention on such things as food consumption, foreign exchange earnings, and income distribution.  Acknowledgement We received a great deal of assistance from a number of individuals and institutions in the course of our research. Carminda Cereno deserves to be singled out for her excellent and dedicated research assistance throughout the project. Raquel Clar de Jesus, Cesar Quicoy, Achilles Costales, and Salvador Catelo also provided research assistance al: various stages of the research. We benefited immensely. from discussions on agricultural policy with colleagues in the College of Economics ancd Management of UPLB, Cristina David and others in the Department of Agricultural Economics of IRRI, the UPLB Agricultural Policy Working Group, and the World Bank Political Economy of Agricultural Pricing Policy Project. Cristina David and Bart Duff of IRRI, Agnes Quisumbing, Cielito Habito and Corazon Aragon of CEM, UPLB and Manuel de Leon of NEDA generously provided us with data for the project. Secretarial assistance was provided by Marianito Morntero, Merce Arellano, and Lorna Vargas. Finally, we would like to thank the Philippine Institute for Development Studies and the Department cf Economics of UPLB for providing office space for the research staff.  v Table of Contents Page No. Introduction 1 Chapter 1: An Overview of the Economy 4 The Economy Background Overall Economic Performance The Relative Importance of Agriculture Sources of Growth in Agricultural Production The Agricultural Sector Physical Aspects Farms Locational Pattern of Agricultural Production Chapter 2: Descriptive History of Policies 29 Macroeconomic Policy Economic Policy and the Balance of Payments Government Revenues, Expenditures and Enterprises Capital Market Interventions Labor Market Interventions Trade Policy and Fiscal Incentives The Exchange Rate Types and Phases of Government Interventions in Agriculture Types of Intervention Phases of Intervention Chapter 3: Prices and Measures of Price Interventions 62 Product Selection and Prices Measures of Intervention Chapter 4: Effects of Price Interventions on Output, 80 Consumption and Foreign Exchange Method Output Effect Consumption and Foreign Exchange Effects Results Effect of Price Interventions on Intersectoral Factor Flows  vi Page No. Chapter 5: The Impact on Government Budget and Bureaucracy 100 Budgetary Effects of Agricultural Pricing Policy Revenue Effects; Expenditure Effects Net Budgetary Effects The Agricultural Budget Government Investment and Expenditure Bias Administrative Impact of Interventions Chapter 6: Transfers 127 Method Results Chapter 7: Income Distribution Effects of Interventions 137 Income Distribution and Poverty in the Philippines Income Distributioni Effects of Price Interventions on Producers Method Estimates Income Distributior. Effect of Interventions on Agricultural Laborers Income Distribution Effects of Price Interventions on Consumers Chapter 8: Variability 165 Chapter 9: Price Intervention Regressions 169 Chapter 10: Political Economy of Agricultural Pricing Policies 174 Characteristics of the Political System Political Economy of Direct and Indirect Interventions Direct Price Interventions Rice Corn Sugar Coconut Inputs Indirect Price Interventions References 210 Text Tables 217 Appendix Tables 3nl  1 - Introduction The February 1986 revolution in the Philippines which led to the exile of President Marcos after 20 years in office powerfully underscores the role of economic factors in shaping political events. The only Philippine president to be re-elected, thanks to a 1969 campaign which emphasized the success of his nrice and roads program,' Marcos was also the only Philippine president ever to be forcibly ousted from office. The 1986 revolution was fundamentally a reaction to the failure of Marcos' economic policies to realize the promises made at the outset of his so-called "New Society" following the declaration of martial law in 1972. Instead of manifesting vigorous industrialization and a 'countryside transformed" (Marcos, 1976), the Philippine economy remained excessively dependent on primary exports and became increasingly dependent on external borrowing, both of which contributed to the economic crisis of the 1980s. Indeed, the February 1986 revolution came on the heels of rapid inflation (13984) and declines in output and income (in 1984 and 1985), the only instances of negative growth in the Philippines during the post-World War II period. Moreover, a large percentage of the rural population suffered significant income losses from government interventions in agriculture that were both inept and prejudicial to farmers. The growth of insurgency during the late 1970s and early 1980s and the geographical shift of its center from the predominantly rice-growing Central Luzon area toward the coconut, sugar, and plantation regions south of Manila corresponded with the pattern of bias in Philippine agricultural policy during the 1970s. At this time, agricultural policy generally favored irrigated rice farmers, disfavored coconut and sugarcane farmers, and largely ignored the land tenure problems in coconut, sugar, and plantation agriculture.  -2- While economic factors have influenced political developments in the Philippines, political events and attitudes, in turn, have helped to shape economic policy. In particular, the attainment of political independence and the spirit of nationalism which accompanied it were instrumental in the adoption of two policies that have most strongly affected agricultural incentives and interests -- namely, the industrial protection system in the 1950s and government interventions in the marketing of agricultural products in the 1970s. Political independence from the United States, which served the nationalist interest, also meant the gradual disappeaLrance of the Philippines' favored position in the protected American market. This, together with a stubborn bias against correcting a greatly overvalued peso, made Philippine policymakers beli(eve it was time to move away from the colonial dependence on primary exports and focus instead on an industrialization geared to the domestic market. At the same time, the import control system that was acdopted to effect this transformation also served a nationalist purpose by introducing a dis,criminatory Filipinization on the import trade. Similarly, the government's direct interventions in coconut and sugar trading during the 1970s were in part attempts to reduce the perceived domination by non-Filipinos of agricultural trading and processing. However, instead of being useful, the interventions actually aggravated the structural adjustment problems facing coconut and sugar producers. International prices of coconut and sugar became more volatile and the world use of substitutes continued to grow. The present study examines agricultural pricing policies in the Philippines between 1960 and 1986 and their effects on agricultural incentives, output, and incomes. The study looks at both specific measures  -3- directed at particular crops and the constellation of policies affecting the real exchange rate. Thus, the ffdirect effects" are essentially the partial equilibrium impacts of taxes, subsidies, customs duties, price controls, and quantitative restrictions. The "indirect effects" on the real exchange rate stem from the industrial protection system and the management of fiscal, monetary, and exchange rate policies. As the study shows, the latter account for a large part of the policy bias against agriculture in the Philippines over the entire period since 1950. Thus, the effects of government policies regarding agriculture were strongly influenced by the overall development strategy that was adopted. Chapter 1 of this report gives an overview of the Philippine economy and the agricultural sector. Chapter 2 describes the macroeconomic and agricultural policy regime affecting the performance of the agricultural sector. Chapter 3 presents the measures of government interventions in agriculture; and Chapter 4 through 7 present the estimated effects of these interventions on output, consumption, foreign exchange, budgetary transfers, and income distribution. Chapter 8 presents measures of price variability, and Chapter 9 presents price intervention regressions. Finally, Chapter 10 discusses the political economy of direct and indirect government interventions in the agricultural sector.  Chapter 1 An Overview of the Economy The Economy The Philippines, located in Southeast Asia, is an archipelago of about 7,107 islands and a number of islets with a history of alternate exposure and submersion. The country has a total land area of nearly 300,000 square kilometers; 45 islands account for 98 percent of the land area. The islands of Luzon (which measures 104,688 square kilometers) and Mindanao (with 94,630 square kilometers) account for two-thirds of the total land area. The country can be subdivided into three broad island groupings: Luzon in the north, Mindanao and the Sulu group in the south, and the intermediate-sized Visalyan islands in the middle (primarily Samar, Leyte, Bohol, Cebu, Negros, and Panay). Table 1.1 presents the! population of the Philippines in selected years. The total population grew f'rom 19.2 million in 1948 to 48.1 million in 1980, and 55 million in 1985. The rate of population growth was 3.1 percent a year during the 1950s, 3.0 percent cluring the 1960s, and 2.7 percent during the 1970s. Table 1.1 breaks the population into rural and urban. categories, with two definitions given for urban. The table shows that the Philippines is primarily rural. Even most of the so-called urban municipalities function as agricultural service centers revolving 'around agriculture. Metro Manila is the cotntry's largest city. In 1980, its population of nearly 6 million people represented one-third of the country's 17.9 million urban inhabitants. (In 1960, the city's population accounted for three-tenths of the total urban population.) Metro Cebu is the country's second largest metropolitan area. However, its population in 1980 was only 13 percent of that of Metro Manila.  -5- Table 1.1 shows that the primacy index (i.e., the ratio of the population of the largest city to the combined populations of the second, third, fourth, and fifth largest cities) has been rising for the first time since World War II. The growing primacy of Metro Manila is a result not only of urbanization but also of the post-World War II government policies which have favored the establishment of import-substituting industries in and around Manila. The population density in the Philippines has risen from about 64 persons per square kilometers in 1948 to 160 persons per square kilometer in 1980. This density varies substantially within the country, however. The most densely populated area is the Central Luzon-Metro Manila Southern Tagalog corridor. In 1980, the population density in the country ranged from 9,317 persons per square kilometer in Metro Manila to 2.5 persons per square kilometer in the island of Palawan. The Philippines currently has the highest national population density among the (agricultural) Southeast Asian countries. The growth in population has reduced the agricultural land/worker ratio (i.e., the amount of arable land per person employed in agriculture) from about one hectare during the 1950s to about one-half hectare during the early 1980s. This seems to suggest a near closing of the land frontier brought about by the rising population against the land constraint (see Hayami, et al., 1976). However, land classification by topographic maps suggests there is still a large amount of land that is suitable for agriculture (ILO, 1974, p. 83, footnote no. 1). More data and analysis of the cost of land settlement are needed before the trend can be assessed with greater accuracy. Nonetheless, it can be argued that some of the decline in the land/worker ratio is due to the development strategy of the post-World War II period. First, the policy bias against agriculture  -6- reduced the returns from investments in land settlement -- investments which increase arable land. Second, the failure of the industrial manufacturing sector to absorb proportionately more labor meant that agriculture and services had to provide employment for the growing labor force. Changes in the population base of the labor force make it difficult to obtain a uniform time series on labor supply and labor force participation rates. Before 1976, labor force surveys were taken on a population base more than ten years old. . Since then the surveys have been conducted using a population base more than 15 years old. The labor force figures given in Table 1.1 have not been adjusted for differences in population base (the 10-14 year-olds constituted 12.37 percent: of the total population in 1980). The labor force participation rates were around 56-57 percent during the late 1950s to mid-1960s, 50 percent during 1970-75, 58-62 percent during 1976-82, and 64 percent duriinrg 1983 and 1984. The Philippines has been less trade-oriented than other Southeast Asian countries. In 1982, imports and exports as a percentage of GNP in the Philippines were 32 percent:, compared with 40 percent in Thailand, 44 percent in Indonesia, 90 percent in Malaysia, and 331 percent in Singapore (Hill and Jayasuriya, 1985). The small size of Malaysia's and Singapore's populations explains their focu.s on trade. On the other hand, Thailand has a population size comparable tc the Philippines and Indonesia has a much larger population than the Philippines; both of these countries also have higher rates of foreign trade participation. Some trade in the Philippines may have been inhibited by the physical fragmentation of. the country and inadequate port and transportation facilities around Mirndanao. However, the major obstacle to trade appears to be the predominantly inward-looking development approach engendered by the incentive structure of the post- World War II period.  -7- Overall Economic Performance Since the 1950s, the growth performance of the Philippine economy has been less than satisfactory compared with other East Asian countries. Between 1950 and 1956 the economy grew at an average rate of 8 percent a year. The growth rate declined to 5 percent a year between 1957 and 1972. The economy picked up slightly between 1973 and 1979, when real GNP increased by 6.8 percent a year. However, growth fell off again between 1980 and 1983 and actually turned negative in 1984 and 1985 (see Table 1.2). Furthermore, alleged flaws in the methodology and data used to estimate the national income accounts may have overstated the growth rate of national income during the 1970s by as much as 100 percent (Oshima, et al., 1986). The average rate of growth in real GNP per capita between 1960 and 1984 was the lowest among the Southeast Asian countries; it also was lower than the average growth rate of lower middle-income countries and individual growth rates of middle-income countries during 1960-82 (World Bank, 1984, pp. 218-19). During the post-World War II period, the Philippine economy has experienced intermittent balance of payments crises. The first one occurred during 1949-50 and ushered in the foreign exchange and trade controls of the 1950s. The second one occurred at the turn of the 1960s and led to the de facto peso devaluation in 1962. The third crisis took place in 1969; and led to another devaluation in early 1970. The most recent and most serious crisis took place between 1983 and 1986; it again required a major devaluation. It is difficult to come up with a satisfactory explanation for the disappointing economic performance and balance of payments crises in the Philippines between 1950 and 1986. Although the international economic environment facing the Philippines needs to be considered, several studies  - 8 - and papers (e.g., Baldwin, 1975; Bautista and Power, l979; David, 1983; Intal, David and Nelson, 1985; Sicat, 1985) point to the nature and extent of government intervention in the economy as causal factors. The various studies suggest that govermnent policies have led the Philippines away from the areas where it has a comparative economic advantage, resulting in a misallocation and underut.ilization of the country's scarce capital resources. Macroeconomic pricing policies have resulted in low to negative real interest rates and an overvalued peso; the! structure of protection for industries has been highly uneven and strongly biased against exportables; government interventions, particularly during the 1970s, have tended to reduce the role of the market mechanism in favor of government regulation -- a process which has enhanced the monopoly power of public and private enterprises. The international economic environment for the Philippines turned from very favorable during the 1950s to very unfavorable during the early 1980s. The country enjoyed tariff preferences in the United States during the 1950s and, to a lesser extenlt, during the 1960s under the Bell Trade Act and the Laurel-Langley Agreement. At the time, however, the Philippines did not fully excploit this position because of its focus on import substitution. The 1960s were the boom years in international trade, and, compared with the 1970s, world commodity markets then were reasonably stable. In hindsight, the 1950s and 1960s may be described as the decades of lost opportunities for the! Philippines. During the 1970s and early 1980s, the internat:ional economic environment for the Philippines worsened. The 1970s were punctuated by the two oil price shocks of 1973 and 1979, the ensuing world recessions, and large swings in export prices. Because the Philippines relied on imported oil to satisfy much of its energy needs during the early 1970s, the oil  -9- price increases drastically raised the share of the oil bill in total merchandise import payments. This share rose from less than 11 percent before 1974, to around 20 percent during 1974-79, and 25 percent during 1980-82. The deterioration in the external terms of trade which began in the 1950s accelerated during the 1970s and early 1980s. This deterioration is comparable in extent only to that of the late 1920s to the early 1930s during the Great Depression. Finally, world interest rates rose substantially during 1979-82, adding to the payment the Philippines had to pay on its external debt, which has variable interest rate terms. Table 1.2 presents the percentage shares of imports and exports to gross national product during 1950-83. Exports as a share of real GNP averaged about 22 percent during the first half of the 1950s, but declined to about 17.8 percent between 1956 and 1983. The only time when exports reached 20 percent of GNP was between 1963 and 1966, right after the 1962 devaluation of the peso. Note that the export share dropped during the few years before the devaluations in 1962 and 1970; this may reflect the undet- reporting of exports as a form of "dollar salting" in anticipation of the peso devaluation and/or the inhibiting effect on exports of an increasingly overvalued peso. The share of imports to GNP averaged 26.2 percent during 1950-55 and 20.3 percent during 1956-83. Imports were quite a bit higher than exports except during- 1963-66. Table 1.2 also presents the shares of gross domestic investment and savings to GNP. The most noteworthy point is the much higher rate of investment during the 1970s and early 1980s compared with the 1950s and 1960s. The'share of gross savings--here defined as the sum of capital consumption allowance, personal savings, government savings, and corporate savings--also increased during the 1970s but not as much as the rate of investment. The investment-savings gap reflects the current account  - 10 - deficits and external borrowing, especially during the 1970s and early 1980s. Ironically, the sharp increase in investment rates during the 1970s failed to generate self-sustaining growth in the Philippine economy. One reason is that the overall incentive structure encouraged inefficient utilization of domestic and foreign capital resources. Another reason is the increasing dependence cn external financing of investment--a policy which contributed to the debt crisis of the 1980s. The Relative Importance of Agriculture Agriculture is an important sector in the Philippine economy, although its importance has been declining in recent years. Agricultural crops and livestock account for about one-fifth of the gross national product; agriculture, fishery, and forestry together account for about one quarter of GNP (see Table 1.3). These shares do not completely capture the importance of agriculture in the economy because they do not include gross value added from the processing of agricultural products and from the marketing and exporting of processed and unprocessed agricultural products. These activities are assigned to other sectors of the economy in the national income accounts. Philippine agriculture has been dominated by rice, corn, coconut, sugar, banana, tobacco, abaca and pineapple production. Rice and corn are the main foodgrains; coconut and sugar are the main tracditional export crops. Tobacco and abaca (manila hemp) were important exports during the late l9th and early 20th centuries but are now minor traditional exports. Banana and pineapple are the major non-traditional ex?ort crops. Other crops include coffee and mango (the two newly emerging agricultural exports), rootcrops (primarily cassava and sweet potato), a large variety of fruits and vegetables, and minor commercial crops like rubber, ramie, and maguey. Hog and poultry production are the major livestock industries; carabaos are used primarily as draft animals.  - 11 - Processed and unprocessed agricultural products historically have dominated Philippine exports. Sugar, abaca and tobacco accounted for more than three-fourths of total exports between 1873 and 1895. Coconut did not emerge as a major export crop until the turn of the century. Sugar, abaca and coconut accounted for an average of 85 percent of exports between 1899 and 1938. Sugar and coconut by-products have remained the two most important export crops since World War II. Pineapple and banana became important exports starting in the late 1960s. Table 1.3 shows that by 1962, agricultural crop exports still accounted for 63 percent of total merchandise exports. Thereafter, their share of exports declined substantially due to the sharp increase in exports of forestry products and, in the 1970s, the increase in exports of garments and electric components (largely semi-conductors). Much of the gross value of the exports of garments and semiconductors, however, is accounted for by imported raw material inputs. Viewed in terms of the net value of exports (i.e., gross exports minus imported raw material inputs), the share of agricultural exports would be much higher. Agricultural imports accounted for more than 25 percent of total merchandise imports during the early 1960s. By 1980 this share had declined to about 7.5 percent (Table 1.3). The decline reflects the sharp increase in the share of oil imports during the 1970s and the successful substitution of rice for agricultural imports. The major agricultural imports are corn, wheat, and soybeans. Agriculture, fishery and forestry employed about 60 percent of all employed persons during the late 1950s; by the 1980s the share had dropped to about 50 percent. The increase in employment took place in the services sector, not in manufacturing.  - 12 - Table 1.4 provides a picture of the growth performance of the agricultural sector between 1950 and 1984, based on estimates of real gross value added and the real value of crop production. The quality of Philippine statistics on crop production is inconsistent, although estimates for rice, corn, sugar, and pineapple are among the more reliable. The issue of statistical reliability is particularly important during the 1970s because at that time the contribution of other crops increased significantly. According to existing estimates, growth in the agricultural crops sector has been variable between 1950 and 1984. The! highest growth occurred in the early 1950s as a result of economic recor,struction after the war. The lowest growth occurred in the early 1980s, due to drought and low international prices. It appears surprising that agricultural crop production grew at a higher rate during the 1970s than during the 1950s and 1960s, given the policy bias against agricultural exports during the 1970s. The relatively high growth of agricultural crop production during the decade actually was due to a number of factors: accelerated foodgrain output due to technological improvements in rice production; improved government support services, especially irrigation for rice; the output effect of implicit governimenc protection of domestic corn production; the delayed output effect of the peso devaluation on coconut production during the 1960s; government investment incentives to meet the increased U.S. quota for sugar during the 1L960s and 1970s, and the acceleration of crop diversification into banana, pineapple, and coffee production during the decade. Table 1.4 also presents the average growth rates of food, non- food, importable, exportable, and non-tradable crops. The individual production data were aggregated by multiplying the quantity of each  - 13 - commodity by its 1972 price, and then summing them up. Food crops were computed with and without coconut because coconut oil has many nonfood uses. Rice was included in the importables even though it was exported during the late 1970s because there are more years when it was imported. According to the table, food production increased by an average of 6.2 - 6.7 percent a year during 1951-60, 4.3 percent a year during 1961-70, and 6.8 - 7.2 percent a year during 1971-84. Nonfood production increased at an average rate of 4.4 percent a year during 1951-70, and 2.1 - 9.6 percent a year during 1971-84. It is worth noting that, for the entire period, exportables had the highest average growth rate and importables had the lowest. Per capita food production and apparent consumption during the 1970s and early 1980s are presented in Table 1.5. During this period per capita food production was always greater than per capita food consumption, indicating that the Philippines is a net food exporter. Nonetheless, there was no marked increase in per capita food output during the period, and per capita food production remained fairly stagnant during 1976-84. The declines in food production that occurred during crop years 1972-73, 1982-83, and 1983-84 resulted primarily from typhoons, floods, and drought. Per capita food consumption tended to increase over time except during periods of production shortfalls. For example although per capita food production declined substantially during the early 1980s, per capita food consumption did not decline very much since rice stocks were available. Sources of Growth in Agricultural Production David, Barker and Palacpac (1984) estimate that between 1955 and 1980, agricultural output grew at a compound annual rate of 4.5 percent and agricultural input grew at a compound annual rate of 3.5 percent. Thus, total agricultural productivity rose by a compound annual rate of 0.9  - 14 - percent. (Agricultural input consists of fertilizer, imported feeds, and the services from fixed capital comprising the stock of trees, fann machinery, irrigation, and draft animals.) However, there are substantial differences in the growth of productivity by subperiod and by crop. For example, agricultural productivity barely increased during 1955-65, but: increased a lot during 1965-80. Much of the increase in productivity occurred in rice, non-traditional export crops, and livestock. The growth rates of output, area, and yield for each commodity are presented in Table 1.6. In the table, area represents cropped or harvestecL area rather than farm area to allow for multipl.e cropping. Increases in rice output during the 1950s arose from area expansion, during the late 1960s from yield increases. ThLe improvement in yields was due to the introduction and spreaLd of the new rice technology which focused on high yielding and early maturing varieties. These varieties require good wat,er control (i.e., irrigation) and fertilizer. Between 1970 and 1983, irrigated rice farms increased in area from 791,000 hectares to about 992,000hectares. Between 1973 and 1983, the national consumption of urea fertiLizer increased from 153,000 metric tons to 371,500 metric tons (1984 Phi:Lippine Statistical Yearbook, pp. 376-77). Rice farms and sugar farms are t:he major users of urea fertilizer. Growth in output and yield during 1971-75 and 1981-83 was adversely affected by bad weather conditions. The area planted to rice decreased during the 1960s, increased in the mid-1970s, and decreased again during 1980-84. The decline in rice hectarage reflects the deterioration in the price of rice with respect to that of other crops. The decline in rice area occurred in the marginal rainfed farms which faced a profit squeeze.  _ 15 - The growth in corn output took place primarily because of area expansion. The significant yield increases occurred during the late 1970s, probably due to greater use of high yielding varieties. As with rice, bad weather adversely affected corn yields during the early 1970s and early 1980s. The growth performance of coconut production exhibits two major patterns: a marked expansion in area during the late 1960s and 1970s, and yield increases during the 1970s. The expansion in area during the 1960s was due to large increases in the relative price of coconut associated with the country's exchange decontrol and devaluation policy. Area expansion during the late 1970s appears to have resulted from the more than doubling of farm coconut prices in 1974 and equally large price increases during  - 16 - 1979-80.1 The decline in yields during the 1960s is deceptive because of the long gestation period oE coconut trees; the large increases in yield during the 1970s reflect the maturation to fruit bearing stage of the trees planted during the 1960s. The decline in yields during the early 1980s resulted in part from drought conditions. 1/ It is possible, however, that the estimates of area expansion in coconuts during the latter 1970s were overestimated. The total number of trees grew by only 3 percent per annum during 1975-79, compared to 4.9 percent per annum during 1970-74. Nevertheless, the growth of area expansion was higher during the second period. Compared to the 1960s when area expansion was accompanied by a reduction in the share of nut bearing trees to total number of trees, area expansion during the late 1970s was accompanied by an increase in this figure. Yield per hectare increased during the early :1950s, declined during the late 1950s and the 1960s, increased again during the 1970s9 but turned negative during the early 1980s. Yield in terms of nuts per nut bearing tree declined from the late 1950s to the early 1970s. The yield estimates during the late 1970s may be overestimated, however. The 1980 Census of Agriculture gives a yield of 32 nuts per nut bearing tree in 1980, compared to 46 nuts per nut bearing tree based on the BAEcon survey estimates--the official basis for computation of the national income accounts. The 1980 Census figure is comparable to the 31-33 nuts per nut bearing tree during the early 1970s; hence, no increase in yield. Considering that the 1.980 Census and the Bureau of Agricultural Economics estimates of the number of nut bearing trees in 1980 are comparable, it appears t.herefore that the official annual series on coconut output (in the BAEcon estimates) may overestimat(e the output by almost 50 percent.  - 17 - The changes in sugarcane area and yield during the past three decades reflect the locational specificity of sugarcane production. Large area expansions resulted in yield declines, largely because the expansion took place in marginal sugar farms in Negros located far from the mills and in regions with less ideal soils and climate and less established milling operations (i.e., Bukidnon, Ilocos). Area expansions in sugarcane during the 1960s were a response to the devaluation and the increased sugar quota from the United States; during the early 1970s they were a response to steep increases in world sugar prices. The fastest growth in the area and output of tobacco occurred during 1956-60, when the government had in effect a support price for flue- cured tobacco. This resulted in large increases in the relative price of tobacco vis-a-vis other crops. In addition, the government extended technical assistance, set-up flue-curing barns, and distributed certified tobacco seeds. Large declines in output, area and yield occurred during 1961-65 because of adverse weather conditions and deteriorating prices. The reduction in area and production and the stagnant yields during the 1970s were due to droughts, indiscriminate planting of different tobacco types, and the expiration of the Laurel-Langley Agreement which ended the quota on duty-free tobacco exports (see Abad, 1982). Although tobacco is a relatively minor crop, the tobacco industry has had political clout, primarily because the tobacco area is centered in Northern Luzon, home to many nationally prominent politicians (three of six presidents are ethnically linked to the region). Abaca was the top export earner at the start of the century. Since then it has become a minor crop, as abaca lands have shifted over to coconut and banana production. The abaca industry has much less political power than the sugar, coconut, and tobacco industries. The declining  - 18 - yields of abaca have resulted from the failure to control pests and diseases in the Davao area, which is favored for abaca production. Pests and diseases also have destroyed much of the hectarage in the region. The periods of growth in abaca output coincide with the years of high relative prices for abaca vis-a-vis other crops. Non-traditional export crops have become important only since the late 1960s. Their share in total merchandise exports was about 3 percent in 1970, increasing to about 7 percent in 1982. For both pineapple and banana, the expansion in output, area and yield resulted principally from the establishment and expansion of plantations geared for exports. These plantations follow rather exacting varietal choice, planting, farn management, harvesting, packing, and processing standards in order to satisfy the quality requirements of the export market. The output of mrango has increased despite reductions in harvested area, largely due to the widespread use of commercial flower inducers such as potassium nitrate. These inducers potentially can increase the yield per tree from 'i to 13 times (Tuiza, 1984). Coffee was an important export earner during the 1880s, but the bligh: of the 1890s decimated the coffee trees, and coffee did not emerge iagain as an export crop until 1975. Both the harvested area and yield of coffee increased during the post-World War II period. Initially, they increased in response to the import substitution program of the government. Later, they increased in response to favorable world prices. Area expansions occurred primarily in Mindanao and in Southern Luzon, the center of coffee production in the Philippines during the 1880s. The growth in root crop production is primarily due to area expansion. This expansion, especially during the 1970s, probably stems from increases in food demand associated with population growth, an  - 19 - increase in demand for cassava as feeds, and the shift of some marginal rice farms to root crop production when the relative price of rice declined in the mid-1970s. The shift to root crop production occurred primarily in Bicol, Eastern Visayas, and Central Mindanao. Livestock Livestock contributes over one-fifth of the gross value added of agriculture. It consists of poultry, hogs, cattle, and carabao. (Carabao is raised primarily as a work animal rather than for meat.) Meat production increased by about 2.5 percent a year during the 1970s, compared to about 1 percent a year in the previous years. The growth was due to increases in poultry and hog production. Poultry contributed around 15 percent of the total meat supply in 1970, hogs around 60 percent (Cabanilla, 1983). Developments in the livestock sector since World War II reflect a shift in production away from home raising of livestock toward commercial livestock production. In poultry, this change has involved a 'turnkey' broiler operation in which the breeding stock is imported from the U.S. or Europe and the physical environment for breeding is kept as close as possible to the production technology from abroad. Commercial poultry raising has become important since the 1960s; commercial hog production has become important only since the early 1970s (Unnevehr and Nelson, 1985). Commercial chicken production as a share of total chicken production increased from less than 20 percent in 1970 to about 70 percent in 1984 (MAF, 1985). The share of commercial pork production in total pork production increased more slowly, from 13 percent in 1970 to about 25 percent in early 1980s (MAF, 1985). Cattle raising, which requires a lot of land, has been hampered by the unavailability of land due to the declining land/worker ratio, the  - 20 - uncertainty of land ownership, and peace and border problems in areas with potential for cattle production. The Agricultural Sector Physical Aspects Land Area and Use The Philippines has a total land area of nearly 30 million hectares. About 8 million hectares are currently under cultivation; field crops are grown on about 4.5 million hectares, and tree crops occupy about 3.2 million hectares. About 11 million hectares are covered with grasses and pastures; a considerable portion of this could be developed as cropland. Rice, coconut and corn are the most important crops in the Philippines. As of 1980 they accounted for about 88 percent of the total farm area. Sugar, although very important in Philippine trade and a major policy concern, accounted for only one percent of the totaL farm area in 1980. Climate2 Temperature variations are minor over most of the country except between the lowlands and mountain areas. In northern Luzon, where the range in seasonal variation in temperature at sea level is widest, the warmest month averages 83.40F ind the coolest month averages 76.60F. At sea level the temperature never drops below 606F and very seldom reaches 1000F. 2/ The discussion on climate and soils is based on Huke (1963), Burley (1973) and Bruce (1984).  - 21 - Rainfall is the most important climatic factor. It also is a key determinant in the locational distribution of agricultural crops. The volume and seasonal distribution of rainfall in the different parts of the country is caused by the convectional activity associated with the intertropical front and the southwest monsoon, and by typhoons and orographic activity. Typhoons produce between one quarter to one third of rainfall in the Philippines. However, they also bring destruction to crop and property in the typhoon-belt regions--primarily Eastern Visayas and Luzon. Although most of the country receives at least 60 inches of rainfall a year, some parts receive more than 140 inches. Robert Huke (1963) classifies seven climate types in the Philippines according to the length of the dry season (the number of months with less than 2.4 inches of rainfall per month) and the ratio of the rainfall of the wettest month to the rainfall of the driest month. Based on Huke's classification, about 25 percent of the country has a dry season of at least 4 months, about 30 percent has a dry season of 1 to 3 months, and the rest experience no dry season. Soils Philippine soils are strongly influenced by their parent materials. Andesites, basalts and agglomerates are the most common parent materials, representing 21 percent of the total land area. The soil types associated with these materials are varied but generally are low in fertility. Heavy applications of lime are required to supply calcium and to correct for the acidity of the soil. Some of the lateritic soils (or lathosols) are characterized by very rapid leaching and excessive permeability. Coconut and abaca are planted in the more favorable soils from this parent group.  - 22 - Alluvium forms the basis for most of the productive soils. It is the second most common parent material, found in 15 percent of the total land area. Alluvial soils are concentrated in Central Luzon, Cagayan Valley, Negros Occidental, and Southeastern Panay. Fine textured alluvial soils are the most suitable for r.ice cultivation. Coarse textured alluvial soils are the most suitable ior sugar, abaca, coconut, and tobacco. The coarse soils are more permeable and subject to rapid leaching. As a result, they are relatively low in fertility. The fine textured alluvial soils are less permeable and more fertile. Shale and sandstone together form the parenl material for 15 percent of the tota.l land area. Limestone is t:he parent material for 13 percent of the land area and volcanic tuff, for 2 percent., About one-third of the land is still unclassified according to soil type. Calcareous shale and limestone soils are concentrated in the Visayas. The calcareous shale result in fairly rich and productive soil. However, because much of this parent material is in sloping terrain and has low permeability, it is subjecl: to soil erosion. Perennial crops and corn are planted in these soils. The limestone soils are mainly coralline and are friable, very porous, and have a high concentration of alumina and iron. They also are susceptible tco soil erosion. Soil erosion is a serious problem in many parts of the Philippines because of the nature of the soils, the terrain, population pressure, and poor farming methods. In some areas like the island of Cebu, much of the topsoil already is depleted. This is a problem which necessitates greater attention from the government. Farms In 1971, there were 2.35 million crop and livestock farms in the Philippines; in 1980 there weire 3.42 million. The corresponding total  - 23 - hectarage was 8.5 million hectares in 1971 and 9.7 million hectares in 1980 (Table 1.7). Rice farms were the most numerous, accounting for 42 percent of the total number of farms and 31 percent of the total farm area in 1971. In 1980, they accounted for 47 percent of farms and 38 percent of the farm area. Corn and coconut farms were the next most numerous, together accounting for 43 percent of the farm area in 1971 and 49 percent in 1980. Sugarcane farms barely constituted one percent of all the farms. (1971 and 1980 Censuses of Agriculture) (See Appendix Table A1.2.) In the 1971 and 1980 Censuses, a farm is assigned to a specific crop or livestock if at least 45 percent of the value of output from the farm is derived from it. Thus, the commodity classification in Appendix Table A1.2 is misleading to the extent that farmers practice intercropping or sequential cropping with other crops. In the 1980 Census of Agriculture, 15 percent of all the farms practiced intercropping and 52 percent practiced sequential cropping with other crops. Philippine farming is characterized by a preponderance of small farms, except for a few large plantations in the export sector (see Appendix Table Al.3). About 85 percent of all the farms were less than 5 hectares; this size farm accounts for about 50 percent of the total farm area. About 65 percent of all rice and corn farms were less than 3 hectares. Farms of 25 hectares or more accounted for a very small share of the total number of farms. About 38 percent of farms, covering about 45 percent of total farm area, were fragmented into two or more parcels of land. Although few in number, farms with 25 hectares or more accounted for a large share of the total farm area or number of trees/vines/hills of export crops and farms for livestock. Pineapple provides an extreme example; there, both production and exports are dominated by two  - 24 - multinationals. Farms of 25 hectares or more accounted for about 75 percent of the sugarcane area in 1971, although this share had dropped to 54 percent by 1980. Similarly, 33 percent of all banana hills in 1980 were in farms of 25 hectares or more, even though these farms accounted for only 0.5 percent of all banana farms. Land tenure has been a critical issue in the Philippines since before World War II. Much of the insurgency in rural areas is tied to grievances about tenurial relations. The 1971 and 1980 Censuses of Agriculture provide some picture of the tenure status of farmers, even though the classifications oE tenurial relations differ somewhat between the two censuses (see Appendix Tables A1.4 and A1.5). The tenure problem stems from the fact that only about 60 percent of the farms (and farm area) in the country are fully owned by the farm operators themselves. The rest of the farmers are mainly share tenants, lessees paying a fixed amount of cash or produce to rent the land, or new owners of the farms without security of title. Rice and corn farms historically have been the focus of the government's land reform programs, although sugar farms employed more share tenants in 1971. In recent months, there has been a strong public clamor for an expanded land reform program. In July 1987, 1:he government promulgated a comprehensive land reform program to include not only sugar and coconut farms but also public lands and other plantations. Since 1973, the government's land reform program in rice and corn has consisted of transforming share tenants into leaseholders, who pay a fixed amount of rent in cash or in produce, and eventually into full-owners through the Operation Land Transfer. Under this operation, each farmer- beneficiary is issued a certificate of land transfer as the initial step in a process that eventually will lead to ownership, when the farmer completes his amortization payments. The 1971 and 1980 Censuses of Agriculture (see  - 25 - Appendix Table A1.4 and Appendix Table A1.5) indicate that the government has had mixed results in meeting the goals of its land reform program. Among rice farmers the number of share tenants increased from 289,418 in 1971 to 581,905 in 1980. Among corn farmers the number of share tenants increased from 141,456 in 1971 to 250,745 in 1980. In rice farms the number of full-owners has increased from 442,047 to 901,471; in corn farms from 315,565 to 426,200. The increase in the number of share tenants among rice and corn farmers shows that share tenancy cannot just be legislated away. The persistence of share tenancy reflects the rational response of farmers to production and marketing risks and the imperfections of the credit and insurance markets. In the 1980 Census, the number of responses for land tenure is higher than the number of farms, indicating that a proportion of the farmers were operating parcels of their farms under various tenurial arrangements. Thus, Filipino farmers have not been fully bound by legal considerations. Variations in tenurial arrangements and in output- and input- sharing arrangements reflect the varied individual responses to risk, credit constraints, and local product and factor market conditions. In light of these factors, the government's efforts to control land rental shares and redistribute land cannot be expected to completely succeed. Nonetheless, these efforts are important indicators of the government's willingness to address the problems of rural poverty, income inequality, and agrarian unrest. The success of these efforts in increasing the proportion of farmers who own their farms and operate their farms at a profit over the long run depends on which government initiatives are taken to strengthen the rural financial market, expand the rural infrastructure, improve farm prices, and promote industrial productivity and growth.  - 26 - Locational Pattern of Agricultural Production The agricultural landscape of the Philippines is a mosaic of widely grown and localized crops, shaped by variations in rainfall, soil quality, and agroclimatic conditions in the country. Palay (unmilled rice) is grown all over the country, but the largest producing regions are Central Luzon (the 'rice granary" of the country), Western Visayas, Central and Southern Mindanao, and Cagayan Valley. Corn production is concentrated in Southern, Central and Northern Mindanao, Central Visayas, and Cagayan Valley. Coconut production is prominent in the eastern part of the Philippines but almost completely absent in the regions north of Manila. Sugar production is concentrated on the island of Negros. Tobacco production is concentrated in the Ilocos Region and in Cagayan Valley. Abaca is produced mainly in the Bicol Region, Eastern Visayas, and Southern Mindanao. Pineapple production for export is limited mostly to the plantations in Bukidnon (Northern Mindanao) and South Cotabato (Southern. Mindanao). Some small-scale production of pineapple takes place in Cavite and Laguna (in Southern Luzon), primarily for Metro Manila's demand. Banana product-ion for export also is concentrated in Southern Mindanao although local varieties are grown all over the country. (See Table 1.8) Rice is the preferred cereal of more! than 75 percent of the population. Therefore, it is not surprising that rice is cultivated all over the country for subsistence and for the market. Furthermore, the rainfall, soil, and temperature over much of the country are suited to rice production. Rice requires adequate water in order to grow. Therefore, the highest concentrations of low.and rice are produced in areas with fine- textured alluvial soils, which have a high capacity to hold moisture. These soils in the Philippines are found mainly in Central Luzon, Cagayan  - 27 - Valley, Cotabato Valley (in Central and Southern Mindanao) and Iloilo (in Western Visayas)--the major rice producing regions of the country. Climate determines the need for irrigation and multiple cropping of rice. Irrigation is important in Central Luzon, which experiences the longest dry season; it is less critical in Cagayan Valley and Cotabato Valley as they have shorter dry seasons. Because sugar has a long growing season, rainfall distribution is especially critical. Sugar needs a dry ripening season with ample sunlight and a dry harvest season in order to generate a high sucrose content and to facilitate the transport of harvested cane to the sugar mills. Delays in transport reduce the sucrose content. Coarse textured alluvial soils are well suited to sugar production because of their high permeability. Although such soils have low fertility because of rapid leaching, the problem can be solved by proper fertilization practices. Northern and western Negros have the ideal rainfall distribution and quality of soil for sugarcane production in the Philippines. The regional distribution of coconut production in the Philippines is determined by the coconut tree's need for large, steady amounts of water. Because the tree has no tap root, it cannot draw water from far below the surface. In the absence of irrigation, therefore, coconut needs to be planted in areas of nearly constant rainfall or in areas with a very short dry season. Thus, coconut is almost absent in the regions north of Manila, which have a relatively long dry season. Coconut production is most successful in light, deep, well-drained soils which have a moderate to high calcareous content. Much of the coconut production in the Philippines is concentrated in areas with year-round rainfall. These areas are characterized by coastal lowlands, which tend to have at least moderately calcareous soils, or by rolling slopes of recently active volcanoes (e.g.,  - 28 - Quezon province and Bicol isI Southern Luzon, Southern Mindanao, and Samar in Eastern Visayas). The MIindanao regions are more favorable to coconut production than Quezon, Bicol and Samar because they are relatively free from typhoons. Corn is highly adaptable to a variety of agro-climatological environments--a factor which accounts for its widespread cultivation in the Philippines. Because of its short growing season, corn can be multicropped, intercropped (usually with cocollut), or roltated with other crops (like palay, tobaccc, cassava and velgetables). However, it is preferable to plant corn in areas which do nol: experience heavy rain or a dry season. Corn production in the Philippines is concentrated in climatic regions which have a dry season of one to three months or constant, even rainfall through the year. Tobacco is adaptable to a wide range of soil and climatic conditions. The Ilocos Region 'produces much of the Virginia-type tobacco, and Cagayan produces a lot of the native tobacco. The difference is attributed to the chemical qualities of their soils. Cagayan has a monsoonal-type climate whiclh influences the texture and aroma of the tobacco leaves produced. Abaca (manila hemp) is centered in Davao, Bicol and Eastern Visayas because of the year-round rainfall and well-drained loam soils derived from recent volcanic material in these areas. Davao also is relatively free of typhoons which seriously threaten the abaca plant.  Chapter 2 Descriptive History of Policies Macroeconomic Policy A series of balance of payments crises began right after World War II. At this time the pre-war exchange rate of 2 pesos per U.S. dollar was reinstated although consumer prices in Manila had increased nearly 600 percent and U.S. consumer prices had only increased 41 percent. This decision, together with the import needs for economic reconstruction and the reduced output capacity resulting from the war resulted in sizable and continuous trade deficits during 1946-49. By the end of 1949, the level of international reserves had dropped far below the 1945 level. The government imposed trade and exchange controls in an effort to curb imports, allocate scarce foreign exchange to 'necessary" imports, and stabilize the exchange rate. The policy responses to the 1949 payments crisis were circumscribed by the 1946 Bell Trade Act, or Philippine Trade Act. This Act extended the pre-war free trade relationship between the U.S. and the Philippines and stipulated that changes in the peso dollar rate or in the peso's convertibility with the dollar would require the approval of the President of the United States. (In addition, the pre-war rate of 2 pesos per U.S. dollar also was the par rate set under the law which established the Central Bank of the Philippines in 1949.) Instead of devaluing the currency and imposing import tariffs, the government imposed an advance sales tax on luxury and semi-luxury items (mostly imported) in 1948 and import quotas on "non-essential" and luxury imports in early 1949. Both actions were considered consistent with the Bell Trade Act. The payments  - 30 - situation worsened again in 1949 due to election spending, a sharp drop in the export price of copra, a reduction in U.S. government: expenditures in the Philippines, and speculation against the peso following the devaluation of the British pound. This time, margin requirements on letters of credit and foreign exchange controls were adopted. These policy measures, initially imposed to strengthen the balance of payments, soon became instruments for a development strategy based on import substitution., However, foreign exchange allocations remainecd oriented toward balance of payments considerations, and allocations were based on the priority of commodities to be imported. A new tariff code was enacted in 1957, reinforcing the policy bias towards import substitution. The second balance of payments crisis occurred at the end of the 1950s. This one ushered in the process of exchange rate decontrol and multiple exchange rates in 1960, and the de facto peso devaluation and exchange rate decontrol in :L962. The devaluation was partly a response to the fundamental disequilibr:ium that had existed in the balance of payments since the start of the 1950s. lEt also was intended to complement decontrol of the exchange rate. The new tariff structure, which had been strengthened by protective adjustments of tariff rates following devaluation, also reinforcecd the decontrol of the exchange rates. The third balance of pcayments crisis occurred in late 1969 and early 1970. This one was caused by structural weaknesses and an expansionary macroeconomic policy. Structural problems created a pervasive foreign exchange constraint, which left little leeway for an expansionary fiscal and monetary policy without a foreign exchange crisis developing. The major weakness of the economic structure was il:s concentration on the highly protected domestic market. The protection structure adopted  - 31 - during the 1960s is now viewed as having overwhelmingly favored the import dependent, import - substituting consumer manufacturing industries and disfavored agriculture and exportables. The bias against agriculture and exports accounted for the slow growth in export volume during the 1960s, after the initial surge in 1962-63 when the decontrol program was established. The Philippine economy moved along at a sluggish pace during the 1960s, for several reasons. The first stage of "easy import substitution", which fueled the growth in the manufacturing sector during the 1950s, had just about run out of steam during the 1960s. At the same time, the incentive structure inhibited the growth of manufactured exports. As a result, the primary sector was burdened with both feeding the nation and earning the foreign exchange required by the import-dependent manufacturing sector. Exports did not grow fast enough to satisfy the country's import requirements, and a weak food sector restricted the demand for domestic consumer manufactures. The government's financial policy was largely non-inflationary during the 1950s but became more expansionary during the second half of the 1960s for re-election purposes and to boost economic growth. Budget deficits were comparatively larger during this period; likewise, the rate of monetary expansion accelerated. The government's emphasis on infrastructure investments and on increasing the ratio of the gross domestic capital formation to GNP reflects its economic growth objectives. Political motives also were served by the expansionary policy: larger deficits occurred during the national election years as the incumbent administration attempted to improve its chances for re-election. The larger budget deficit in 1957 helped to trigger the move toward exchange rate decontrol and de facto devaluation in the late 1950s. The deficit in 1969 triggered the 1970 devaluation.  - 32 - The current balance of payments crisis began in 1983. It was caused by the government's pursuit of economic growth during a time when the world commodity and financial environments were unfavcrable and by an incentive structure which discouraged exports and an efficient allocation of investment resources. Economic growth was a primary rallying theme of the so-called "New Society", which was conceived with the establishment of the martial law regime in 1972. Thus, the Philippine government opted to rely on external debt to meet: its growth objectives despite adverse external developments. As oil December 1982, the Philippines was the sixth largest LDC borrower from the international private banks, following Mexico, Brazil, Argentina, South Korea, and South Africa (Williams, et al., 1983, Table 35 pp. 71-72). The rapid growth of external debt allowed the government to continue its expansionary policies. There were repeated budget deficits beginning in 1975, which generally were higher than those during the 1960s. A sizable part of the external borrowing was used for expensive, overly capital-intensive projects or projects which had questionable social value for anyone but the President's friends. The growing external debt engendered real peso appreciation during the latter 1970s; hence, the exchange rate remained biased against exports and agriculture. The process toward the 1983 crisis was accelerated by the failure of the Philippine government to put a brake OTn its expansionary policies during 1980-82. At this time the investment rate remained very high despite a substantial drop in the domestic savings rate and, a precipitous fall in the prices of major eKports. As projections of an early end to the world recession were disappointed, the government increased its reliance on short-term capital flows. It did this at a time when world interest rates had shot up and the real interest cost of external debt had increased.  - 33 - This reliance on short-term capital flows proved to be disastrous when the unexpected Aquino assassination occurred in 1983. (See Intal, 1984.) Government Revenues, Expenditures and Enterprises3 Compared to other countries, the public sector in the Philippines is a relatively small part of the economy. However, it has been growing faster than the rest of the economy in recent years. Government receipts are composed of tax revenues, social security contributions, general government income from property and entrepreneurship, and grants from abroad. As a share of GNP government receipts averaged 10.3 percent during 1951-60, 11.8 percent during 1961-72, and 15.1 percent during 1973-83. National government expenditures as a share of GNP increased from around 9 percent during the late 1950s and the 1960s to an average of about 15.5 percent during 1975-81. (See Table 2.1.) The increasing share of government revenues and expenditures in GNP is consistent with the experience of other developing countries. A typical Method of comparing tax performance among countries is to compare their relative tax efforts, i.e., the ratio of the actual tax- to-GNP ratio to the predicted tax-to-GNP ratio. In the Philippines the degree of tax effort during the mid-1970s remained the same as during the late 1960s: the actual tax-to-GNP ratio was only about 75 percent of the predicted tax-to-GNP ratio. The tax effort during the mid-1970s was below the international average, just as it was during the mid-1960s. Given the government's propensity to play a more active role in development during the 1970s, the relatively low government tax effort necessarily meant 3/ This section is largely taken from Intal, P. Philippine Public Finance during the 1970s: A Review, Philippine Institute for Development Studies (Project Working Paper 1985).  - 34 - increased government borrowing. (It has been argued, however, that the officially recorded tax revenues do not fully capture the real extent of taxation. It is well known that during the 1970s, finns and selected individuals were asked for "contributions" to finance some favorite "prestigew projects of the first lady. Such contributions can be considered unofficial taxes. There were major changes in government expenditure policy during the 1970s. First, expenditures for education were de-emphasized for other economic development expenditures. Expenditures for education declined from about 30 percent during the 1960s to about 11-12 percent during the late 1970s. In contrast, economic development expenditures increased from about 30 percent during the 1D50s and 1960s, to about 40 percent during the 1970s and early 1980s. Second, there was a marked shift from current expenditures on personal services toward capital outlays. Expenditures for personal services fell from more than 50 percent of national government expenditures during the mid-1960s to aboul: 25 percent by 1980. On the other hand, capital outlays jumped from about 15 percent in 1985 to about 33 percent by 1980. The share of government capital outlays in GNP increased from less than 2 percent during the late 1960s to 3.6 percent during 1976-79, and 5.4 percent during 1980-83. The most important components of capital outlays during the 1970s and early 1980s were infrastructure investments and corporate equity investments. The former is the tradit.ional focus of government capital formation; the later reflects the government's increased support of public enterprises during the late 1970s and early 1980s. Finally, the debt service increased as a consequence of the government debt that had been increasing since the 1970s and the sharp rise in interest rates on the debt.  - 35 - The pattern of public investment in infrastructure also shifted during the 1970s. Transportation and communication had been emphasized between the 1950s and early 1970s. Between the late 1970s and early 1980s, investments in power and electrification began to be emphasized instead. This shift reflects the government's decision to reduce the country's extreme dependence on imported oil at a time when oil prices were increasing and oil supplies were uncertain. The drive to diversify energy resources was successful in increasing the utilization of the country's geothermal resources. However, it also led to the controversial two billion dollar nuclear power plant project, which added to the country's external debt but never was completed. The growth in the public corporate sector during the 1970s is remarkable. The number of audited government corporations and self- governing boards and commissions increased from 70, with total assets of P3 billion, in 1973 to 184, with total assets of P377.5 billion, in 1982 (C.O.A. Annual Reports, 1973 and 1982). If all the subsidiaries and acquired assets of the government corporations were included the total number of public enterprises would be much higher. Government enterprises accounted for a large share of government expenditures during the late 1970s and early 1980s. Table 2.2 presents the annual budgetary contributions to government corporations and the top beneficiaries during 1975-84. The contributions accounted for an average of 13.5 percent of total budgetary expenditures during 1975-84. Two of the top beneficiaries of capital contributions are the two major government banks: the Philippine National Bank and the Development Bank of the Philippines. These two banks and the National Development Corporation (a diversified firm) were the major conduits for the government's support (including bailout) of a number of private enterprises. These private  - 36 - enterprises, especially the fimns owned by known friend.s of President Marcos, became financial burdens to the three institutions and, ultimately, to the national government. The "non-performing assets" of the two banks were transferred to the national government as part of the rehabilitation programs of the two banks. Table 2.1 shows tha: the national government experienced budget deficits in 21 out of 27 years during 1957-83. The largest budget deficits as a share of GNP occurred in 1969, one year before the 1970 devaluation, and during 1981-82, two years before the 1983 crisis. Therefore, it appears that unusually large budget deficits helped to precipitate balance of payments difficulties. All:hough this does not mean there was a one-to- one correspondence between the government deficit and exchange rate depreciation, the cumulation of budget deficits put additional pressure on the exchange rate. Deterioration in the terms of trade and in the industrial trade policy regime also created pressures for devaluation. Capital Market Interventions After World-War II and until interest rates were deregulated in 1980, financial institutions were faced with regulated deposit and loan rates, apart from the portfolio raLtios and reserve requirements that had to be maintained. Although the deposit rates were increased over time, the increases usually were not enough to compensate for the rate of inflation. As a result, real rates on savings and time deposits were very low and usually were negative. There alsc were ceilings on lending rates--a legacy of the 1916 Anti-Usury Law. The ceiling rates were 12 percent and 14 percent for secured and unsecured loans, respectively. The ceiling rates were not binding until the mid-1960s, when the inflation rate began to pick up. At the same time, effective loan rates were increased (Tan, 1980). The Anti-Usury Law ceiling of 14 percent was raised to 16 percent when the  - 37 - Central Bank allowed public and publicly supported banks to impose a service fee of 2 percent during the 1970s. Nonetheless, since the average inflation rate (using the consumer price index) during 1971-80 was 15.2 percent, the real price of the official loan rate ceiling was negligible and even was negative during 1970-74 and 1979-80. (See Table 2.3.) Low interest rates, especially during the 1970s, substantially influenced the allocation of credit. The interest rate became ineffective as an allocative tool, so the government had to rely more on credit rationing. An example of the latter is the President's Decree 717, which required banks to allocate at least 25 percent of their loanable funds for agricultural credit as of May 1975. In addition, because the government banks (especially PNB and DBP) are the most important commercial and investment lenders in the country, the ability to get loans depended in part on the "government connections' of the borrower (Sicat, 1985, p. 25). The low interest rate regime provided large companies access to capital resources for use in large, capital-intensive projects which have had questionable value. Because many of the private bank loans were secured and granted to corporations and large borrowers, the medium- and small- sized firms were not able to develop and grow as fast. (ILO, 1974, pp. 539-40). Philippine manufacturing is characterized by a low rate of labor absorption, largely the result of policy bias against small- and medium- sized establishments. Financial developments also have been influenced by low interest rates. In the course of allocating credit, the government subsidized specialized financial institutions through differential rediscount privileges with the Central Bank, tax breaks, and other measures. Controls on deposit and loan rates led to enormous growth in the money market during the latter 1960s and 1970s, because the money market rates were higher than  - 38 - deposit and lending rates. Thus, during the early 1970s a segmented financial market emerged: thie heavily controlled banking services sector and the relatively uncontrolled money market sector. At this time the banks still engaged heavily in the commercial paper market, however. The government's control over 1the commercial paper market and non-bank financial institutions became more extensive after the 1981 scandal in which one person amassed large c:redits from both the banks and non-bank financial institutions, and then fled the country. This action hit hard a number of non-bank financial institutions in the Philippiaes. Interest rate deregulation began in 1980 and was completed by January 1983, after the ceilings on short-term interest rates were removed. The real interest rate generally has been posiltive and rising since 1981 (except in 1984). Labor Market Interventions The government's intervention in labor pricing has centered on the imposition and enforcement of minimum wages and wage adjustme!nts. Minimum wage legislation in the Philippines began with the passage of the Minimum Wage Law in 1951. Since then, there have been close to 30 legislative acts, presidential decrees, and wage orders passed to adjust the minimum wage or grant additional forms of compensation. Over time, minimum wages for non-agricultural and agricultural workers have become more differentiated. Higher rates are set for non-agricultural workers in Metro Manila than for those outside Metro Manila, and higher rates are set for plantation agricultural workers than for non-plantation agricultural workers. Wage legislation introduced since 1974 has further differentiated wage adjustments. Changes have been made in basic pay, the cDst of living allowance, and the thirteenth month pay. (See Lamberte, et al., 1985; Tidalgo and Esguerra, 1982).  - 39 - The enforcement of minimum wage legislation does not appear to have been successful. The real legislated wage rate declined twice between 1972 and 1983: during the early 1970s and during 1981 and 1982. The average daily wage rate for industrial workers in Manila declined continuously during the 1970s. (No data are available for the 1980s because the Central Bank stopped generating the series in 1981.) The decline in real wage rates during the 1970s may be attributed to a macroeconomic policy which permitted a larger-than-necessary peso devaluation in 1970 and prevented a real exchange rate appreciation during 1972-74 (Lal, 1983). This analysis uses the tradable-non-tradable model of exchange rate depreciation which assumes that the labor-intensive sector is the non-tradable sector. The continued decline in the real wage despite the real peso appreciation during the latter 1970s runs counter to the implications of the model, however. A more compelling explanation for the decline in wage rates is an incentive structure which inhibited employment growth while the labor force was expanding rapidly. The inward-looking development strategy and low interest rates led to a sluggish manufacturing sector and a low rate of labor absorption. Government policy in the area of labor-management relations appears to have favored employers rather than workers. (See Tidalgo and Esguerra, 1982, pp. 112-117.) During the 1970s, strikes, picket lines and lockouts were discouraged in most industries and were banned entirely in vital industries. In non-vital industries, strikes were allowed only for reasons related to "unresolved economic issues." A rash of industrial strikes broke out in 1986 and 1987, the first two years of the Aquino Administration. The strikes appear to have been a delayed reaction to the economic policies of the 1970s, recession in 1984-85, and the unstable political environment in 1986-87.  - 40 - During the 1970s the government curtailed labor rights but failed to increase the rate of industrial labor absorption. The real returns to labor remained the same, while the security of employment d.eteriorated as firms became more vulnerable to fluctuations in the domestic and international markets. The deterioration in workers' welfare contributed significantly to the rise in labor militancy during the l1'70s and 1980s. (See Intal, 1987c). Trade Policy and Fiscal Incentives The pace and pattern of growth in the Philippine economy has been shaped by the tariff structure, tax incentives, and sectoral priorities in import and foreign exchange licensing and control. Import licensing and foreign exchange controls were the primary methods of making adjustments in trade and payments during the 1950s because the Philippines could not impose tariffs on U.S. products and it was determined to maintain a fixed exchange rate. Import licensing initially was used for -balance of payments reasons. However, it soon became the primary instrument oE protection for domestic industries and encouraging local entrepreneurship. Import licensing was extensive, and imports were classified in two ways: as capital or consumer goods, and as essential, semi-essential, or non-essential goods. The most stringent import quota and foreign exchange allocations were placed on non-essential consumer imports, the least stringent on essential capital and consumer goods. This policy encouraged import substitution at the finishing stages of non-essential and semi-essential consumer goods. When controls on imporits and foreign exchange were eliminated during the early 1960s, tarifEs became the main instrument of protection. The Tariff Law of 1957 placed the highest tariff rates on non-essential consumer imports and the lowest rates on essential producer goods, following the criteria of the old import control system.  - 41 - A revised Tariff Code took effect in 1973, reducing the dispersion in tariff rates. Nonetheless, the cascading nature of the tariff system remained the same. Furthermore, the revisions in the tariff code actually increased the average tariff rate by 3 to 4 percent (ILO, 1974, p. 113). The Philippines had the highest average tariff rate in Southeast Asia during the 1970s. In 1978, its average unweighted tariff rate was 44.2 percent, compared to 33.0 percent in Indonesia, 29.4 percent in Thailand, 15.3 percent in Malaysia, and 5.6 percent in Singapore (Bautista, 1981). In 1970, the Philippines imposed temporary export taxes on traditional exports, at rates ranging from 4 to 10 percent ad valorem. The taxes initially were used as a stabilization measure, in conjunction with the 1970 peso devaluation. However, they ended up being incorporated in the 1973 Tariff and Customs Code. In 1974, an additional export premium tax was levied on the difference between the prevailing export price and an administratively set base price. As a result, the export premium tax become intrinsically-the stabilization tax. Although the rates and the coverage of export taxes were changed from time to time, they remained a significant disincentive to the traditional export sector and were responsible for much of the net income transfers from the traditional export sector to the rest of the economy. The average effective rates of protection on sector and commodity goods are given in Table 2.4. The estimates, drawn from Tan (1979, 1986) and Power and Sicat (1971), take into consideration the protective effect of the differential tax bases for the sales or the compensating tax between imports and domestically produced goods. The highest effective rates of protection were given to the import-substituting consumer goods industries. Much lower protection was accorded to exports and to the agriculture and primary sector. The general structure of protection remained the same during the 1960s and 1970s.  - 42 - Duty exemptions became more pervasive during the 1970s and involved primarily capital goods as part of the country's investment incentive laws. Hence, the figures given in Table 2.4 overstate the actual rate of protection accorded the capital goods sector. The! 1970s also saw the resurgence of non-tariff barriers, especially during the second half of the decade when they were i:acreasingly used to protect intermediate goods industries (see de Dios, 1985). Therefore, the figures given in Table 2.4 understate the actual rate of protection for a number of industries in the intermediate goods sector. After a hiatus during the 1960s, import substitution in intermediate goods picked up again during the 1970s, indicating that the non-tariff. barriers had substantial protective effect (see Intal, 1987a). Trade protection laws cLearly favored import substitution. With this framework the Philippine government created a window for growth in non-traditional exports. Initially generous fiscal incentives were provided to export and-import-substituting firms. Later free trade zones were established and permission was granted to export firms to obtain their raw materials at near border prices (primarily) directly from abroad. As a result, non-traditional exports, especially garments and semi-conductor devices, grew rapidly during the decade. For the most part, however, the new export sector functioned almost as an export processing zone and bonded warehouse "enclave". It hacl little interaction with and ;provided little benefit to the domestic economy except throug]h the employment of labor. More importantly, the ratio of exports to GNP declined from about 19 percent during the late 1960s to 16 percent during the late L970s and early 1980s. (Intal, 1987a). Part of this decline was due to the sharp increase in imported non-traditional manufactures which were raw material- intensives. The net decline in the ratio of exports to GNP at the time of  - 43 - rising external debt was one of the critical reasons for the onset of the external debt crisis in 1983. A tariff reform and import liberalization program was initiated in 1981 and was designed to run to 1985. The objective of the program was to further reduce the average rate and dispersion in tariffs. The program proceeded nearly according to schedule until 1983; however, during the 1983-85 crisis tariff reductions and import liberalization were largely ineffectual because the binding constraint was lack of foreign exchange. Therefore, import control and foreign exchange rationing were used extensively. With the easing of the foreign exchange bottleneck in 1986, the Aquino government started a phased import liberalization program. This program initially involved supplanting import controls with equivalent tariffs, it was followed by a gradual reduction in tariffs. The Exchange Rate From 1903 until the start of World War II, the exchange rate was fixed at 2 pesos per U.S. dollar. During this period the Philippines followed the gold exchange standard in which stability of the exchange rate was an overriding objective and the balance of payments was adjusted by making changes in domestic prices and output. (See Intal, 1983 for a description of the pre-World War II period.) The pre-war exchange rate was reinstated right after the war and was maintained during the 1950s, primarily through trade and exchange controls. In 1960, a multiple exchange rate system was instituted in the process of exchange decontrol. The official "preferred" rate remained at two pesos per U.S. dollar, while a "free market" rate was initially set at P3.20 per U.S. dollar. The free market rate stabilized at P3.90 per U.S. dollar, and became the basis for the official devaluation of the peso in 1965. It remained in effect until 1970. Exchange controls were reinstated in 1968 when foreign exchange  - 44 - difficulties surfaced again. The balance of payments cris:is in 1969 led to the floating of the peso in early 1970. The peso was under a "managed float" during the 1970s: the exchange rate rose from P6,40 per dollar at the end of 1970, stayed around P7.40 per doLlar for several years during the second half of the 1970s, and reached P8.54 per dollar in 1982. By 1983, the exchange rate was P11.11 per dollar and in 1986, it was about- P20.50 per dollar (see Table 2.5). During the economic crisis which began in 1983, foreign exchange controls and rationing were once again imposed for a year or so. Table 2.5 presents the current account balance and the various exchange rates. Although. the current account balance was nearly in balance, there was disequilibrium in the balance of payments during the 1950s, as evidenced by the large black market premium. The black market premium during the 1970s was lower than the premium d1uring the 1950s, despite the historically large current account deficits associated with thee large volume of borrowing then. The large deficits even allowed for the accretion of the gross foreign exchange reserves of the Central Bank. The black market exchange rate, as a financiaL lever, takes as given trade and other governmernt interventions in the economy. In a sense, the black market exchange rate is a spillover of the official exchange rate; it is not synonymous with the free trade equilibrium exchange rate. The free trade equilibrium exchange rate is estimated in the paper using a simple version of the elasticities approach (Schiff, 1986). The actual exchange rate is adjusted for the imbalance in thes current account and for the foreign trade policy regime in order to estimate the "freie trade equilibrium exchange rate'. Assume that a country has few exports and imports. Assume also that the average import tariff rate and export tax rate are given. Then,  - 45 - the equilibrium exchange rate under a situation with sustainable payments and no trade distortion is (Schiff, 1986, p. 6): t t m x CAB + QD D1 - t-: QsES E*= E 1+ m x eS QS + D QD where E* = free trade equilibrium exchange rate CAB = current account deficit (- means surplus) tm = tariff rate for imports tx = export tax rate QS = supply of foreign exchange QD = demand for foreign exchange f s = elasticity of supply of foreign exchange, assumed to be equal to the supply price elasticity of exports D = elasticity of demand for foreign exchange, assumed to be equal to the price elasticity of demand for imports. Two estimates of the free trade equilibrium exchange rate were computed; they are presented in the Appendix to Chapter 2. The first estimate assumes that the actual current account balance is sustainable (E2); it is called the free trade exchange rate. The second estimate assumes that the sustainability requires a zero current account deficit (E*); it is called here the free trade equilibrium exchange rate. The correct free trade equilibrium exchange rate is probably somewhere between  - 46 - these two estimates. Howevter, given the record of investmient waste in the Philippines during the period, a zero current account deficit probably is more realistic. Much of the analysis in the succeeding chapters uses this measure, E*. Estimates of the nominal and real free trade equilibrium exchange rate and two estimates of the actual real exchange rate are presented in Table 2.5. Over time the pattern of the real actual exchange rate reflects a delayed response to differences between the inflation rates at home and abroad. The real actual exchange rate increased in 1962 with the peso devaluation and declined during the 1960s, until the 1970 peso devaluation raised it again. During t:he late 1970s it declined again, helping to precipitate the 1983 peso devaluation. (During the 1950s, the Philippine inflation rate was lower than the world inflation rate; however, the peso was heavily overvalued and defenided by trade controls). Differences in the movement of the real actual exchange rate and the real free trade equilibrium exchange rate present a similar story: t]he tendency to overvalue the peso which is only partly and temporarily reduced by successive peso devaluations. During the 1960s and 15970s, the equilibrium nominal exchange rate was always higher than the actual nominal exchange rate. The difference was greatest between 1975 and 1986. About 92 percent of the overvaluation of the peso during this time was attributable to the trade policy regime. The overvaluation was defended primarily by trade and exchange controls during the 1950s, high tariff walls during thie 1960s, tariffs, non-tariff barriers, and external debt accumulation during the 1970s and early 1980s, and exchange controls between 1983-85. Table 2.5 shows the differences between the actual real exchange rate and the free trade equilibrium real exchange rate. The latter was  - 47 - computed as the product of the free trade equilibrium exchange rate and the ratio of the (trade-weighted "world" wholesale) price index to the domestic non-agricultural price index that would have been operative under free trade and an equilibrium exchange rate (Pna*). The free trade non- agricultural price index, or the adjusted non-agricultural price, was approximated as follows: Pna* = P (-l-tnaT. E + (1 -)PnaNT Pna =P (I1+ na-TI) E0 where: PnaT = price index of (tradable non-agriculture) PnaNT = price index of (non-tradable non-agriculture) fi = share of value added of tradable non-agriculture to value added of all non-agriculture at constant prices tnaT = implicit tariff on tradable non-agriculture Tradable non-agriculture was approximated by mining and manufacturing; non-tradable non-agriculture was approximated by utilities, construction, and services. The implicit tariff on tradable non- agriculture is the weighted average of the implicit tariff on imports and the implicit export tax on mining. The share of mining value added to the total value added of mining and manufacturing at constant prices was used as the weight for the implicit tax on mining. Table 2.5 indicates that the real peso overvaluation, as a percentage share of the real free trade equilibrium rate, fluctuated considerably between 1962 and 1986. It averaged 14 percent per year during 1962-66, 20 percent per year during 1967-69, 16 percent per year during 1970-74, 24 percent per year during 1975-82, and 20 percent per year during 1983-86.  - 48 - The adverse effect of the peso overvaluation on agricultural output and incomes is shown in the analyses of direct and indirect price interventions presented in the succeeding chapters. Types and Phases of Government IrLtervention in Agriculture Types of Interventions The government intervened primarily in the product: market at the producer and retail levels, and at the border. The instruments of direct intervention used were farmer price supports, consumer price ceilings, export taxes, import tariffs, production levies, monopoly imports and exports, and export bans. The major instruments of indirect intervention were the industrial protection system and management of the exchange rate. The government intervened also in the input market, by providing public goods (e.g., research, irrigation) for free or at reduced rates to farmers, by subsidizing credit, by stipulating minimum wages, and by subsidizing (or implicitly taxing) farmers on their fertilizer consumption. Interventions in the input market have been less far-reaching than interventions in the product market because of budget constraints and, for minimum wages, lack of control ov(er the labor market. Table 2.6 catalogues government direct interventions by instrument and by product. Rice is the foremost "poLitical commodity" and has been the focus of government intervention since the 1930s. A government marketing agency purchases and sells rice domestically and serves as the sole importer and exporter of rice. This market:ing agency only accounts for a small share of the rice trade, however. The government also provides production support services for rice. Corn is the other key foodgrain, and the mechanism of government intervention for it is; similar to that for rice, except that production support services are scantier for corn. Copra, coconut oil and desiccated coconut are the major by-products of coconut. The government  * 49 - largely ignored the coconut industry until the 1960s. The sugar industry had a very strong lobby until the 1960s and therefore experienced little government intervention, except for the allocation of the sugar quota. However, during the 1970s, government intervention was very pervasive in the sugar and coconut industries and was exercised through controls on product marketing and exports and through taxation. The government's pricing and marketing strategy for rice and corn has been to set consumer price ceilings and farmer price supports and to exert (effective) monopoly control in international trade. During the rice deficit period of the 1950s and early 1960s, the farm price floors were realized more frequently than the consumer price ceilings, and domestic prices tended to be higher than border prices. During the rice surplus years in the late 1970s, the consumer price ceilings were more effective than the farm price floors, and domestic prices tended to be lower than border prices. These differences are explained primarily by the deficiencies in the government's management of rice imports in the 1960s and rice exports in the late 1970s. The Philippines was largely self-sufficient in corn production during the 1950s and early 1960s. Corn management at that time was used to import emergency supplies of corn when bad weather struck. During the 1970s, domestic prices were set higher than border prices in order to encourage import substitution to meet the domestic demand for yellow corn. Before the 1970s, government pricing and marketing interventions in the export crops sector were minimal except for administering the U.S. sugar quota among Philippine sugar producers. Indirect interventions such as manipulations of the exchange rate had more of an impact on the sector than product-specific interventions. During the 1970s, the government intervened heavily in the traditional agricultural export sector, which  - 50 - includes the sugar and coconut industries. It imposed export taxes, controlled foreign and domestic marketing by establishing a government trading monopoly (sugar), provided support to ai privately managed de-facto government-funded coconut wparastatal" with substantial r.onopsony power, and imposed a production levy on coconut. The government's interventions in the coconut and sugar industries during the 1970s were controversial because they exacted a heavy burden on the producers, they did not effectively address the structural problems of the two industries, and they provided opportunities for rent seeking to a few politically well-placed individuals. Government interventions in the input market have been predicated on subsidizing inputs. During the mid 1950s, the government increased its investments in irrigation whe!n President Magsaysay used irrigation as part of his social amelioration program for tenants. It did so again during the 1970s and early 1980s in response to a severe rice crisis and the social benefits from irrigating high. yielding rice varieties. Irrigation remains the most important form of government subsidy to rice farmers, although water rates have been low and the fees collected have not been enough to recover the cost of operating and maintaining the irrigation systems (Cruz, et al., 1987). Government interventions in the credit market also have been designed to subsidize farmers. However, the agricultural credit program set up during the 1970s died out during the early 1980s because of the deteriorating repayment rate and the tight but unstable monetary policy during 1983-85. Government intierventions in fertilizer also have been designed to subsidize farmers. Despite the subsidization, however, domestic fertilizer prices remained higher than border prices, except during 1973-75. At this tine interventions were explicitly intended to  - 51 - make the domestic prices of fertilizer for food crops lower than border prices, if only temporarily (see Appendix Table A2.2). Phases of Intervention Government pricing interventions in agriculture in the Philippines can be divided broadly into four phases. During the American colonial period (1910-1934), there was minimal price intervention (Phase I). From the start of the Philippine Commonwealth up until the 1960s, government intervention in agriculture focused largely on the food sector (Phase II). This intervention intensified and widened in scope during the 1970s (Phase III). Efforts to reform the system of interventions started during the early 1980s but not until the change in administration took place in 1986 did the government begin to seriously reshape its policies for the sector (Phase IV). Table 2.7 lays out the stages of government intervention in agriculture and the corresponding macroeconomic and political developments. During Phase I, the Philippines was a colony and followed a conservative fiscal and monetary policy under the gold exchange standard. The peso- dollar rate was largely in equilibrium. The establishment of the Philippine Commonwealth in 1935 and the Philippine Republic in 1946 led to the beginning of government intervention in agriculture. More importantly, it fastened a more aggressive policy stance toward industrialization, primarily through the use of exchange rate controls during the 1950s, and tariff protection during the 1960s. The peso was overvalued during both decades because of trade distortions. The country followed a conservative, domestic form of government in Phase II. In 1972, Martial Law was established. The peso continued to be overvalued from trade distortions and disequilibrium in the balance of payments resulting from the government's debt-financed expansionary policy (Phase III). Reforms in  - 52 - agricultural pricing policy took place during 1983-86 (Phase IV), during a period of political liberalization. Phase I (1910-1934) Food Price Policy Government interventions in food pricing and marketing were minimal during the period of the American colonial adminisl:ration in the Philippines. A specific tariff on rice imports was used and had been in place since the last years of the Spanish regime in the Ph:Llippines. As Philippines has been a net importer of rice since the late 1970s, the tariff rate provided protection to domestic rice farmers during most of the period from 1914 to 1940 (see Appendix Table A2.3). The import duty was adjusted upwards beginning in 1933, apparently to help protect the domestic agro-based industries (i.e., poultry raising, coconut oil/lard, beef, and rice) from the exports of countries which devalued their currencies vis-a- vis the U.S. dollar and the Philippine peso. The other noteworthy interventions during the period occurred during 1919-21, when domestic prices fluctuated with the dramatic changes in the world economy. During this time the Philippines experienced a balance of payments crisis. Wien the international price of rice rose to its highest level in 1919-20, the colonial government reacted in several ways. It created incentive measures for domestic rice and corn production, required inter-island vessels to provide tonnage for shipment of rice whenever necessary, imposed penalties for monopoly behavior, hoarding, and speculating in palay (unmilled rice), rice and corn under extraordinary circumstances, and -authorized the governor-general to prohibit the importation of rice for a fixed period of time (Mears, et al., 1974). On the whole, the implicit food pricing policy of the American colonial government was to provide price protection to domestic producers  - 53 - and to attain self-sufficiency. During unusual circumstances the government also attempted to eliminate supply uncertainties for consumers. It is worth noting that, even during the years of peak world prices (1919-20), the domestic price of rice was higher than the import price. Export Pricing Policy The Philippines had a free trade relationship with the United States from 1910 to the 1930s. The colonial government did not intervene directly in the pricing and marketing of sugar and coconut; the growth of these industries was determined by foreign economic developments rather than by domestic policies. Between 1909 and 1919, the world prices of sugar, copra and coconut oil increased sharply. This increase encouraged the expansion of sugar and coconut farms, the establishment of domestic coconut oil mills, and the modernization of domestic sugar milling. The newly established (in 1916) Philippine National Bank (PNB) provided credit to owners of the sugar and coconut oil mills. When export prices declined in 1921, most of the coconut mills closed down and PNB became almost bankrupt. The U.S. Tariff Act of 1922 initially provided relief to coconut and sugar producers and millers. Later, the U.S. Tariff Act of 1930 and the U.S. Revenue Act of 1934 provide aid by imposing tariffs on U.S. imports of coconut oil and sugar. Since at this time the Philippines was considered part of the U.S. customs union, the tariffs encouraged U.S. consumers of sugar and coconut by-products to buy Philippine exports. The tariff virtually excluded imports of coconut by-product from all other sources. The share of Philippine sugar exports in U.S. sugar consumption rose from 8.6 percent in 1928 to 18 percent in 1934; Cuba's share fell correspondingly from 47 percent to 25 percent during the same period. The expansion of Philippine sugar exports to the United States also was fueled  - 54 - by several independence bills in the U.S. Congress. These bills provided for allocating sugar quotas to individual mills and planters based on production (see Intal, 1983). Phase II (1935-1969) Food Sector A 'rice crisis' developed during the beginning of the Commonwealth government--the government form that would lead the Philippines towards eventual political independence from the United States. The rice crisis provided the impetus for the government's real intervention in rice and corn marketing. Poor harvests caused by bad weather during 1934-36 reduced production by more than 20 percent and resulted in a price increase of 25 percent in 1935 and 27 percent in 1936. To provide price relief to consumers and to increase domestic supplies, the government imported rice free of duty and set up a tempcrary distribution apparatus to distribute the rice. The Commonwealth government formed a Rice Commiss:ion in 1936 to study the rice problems and recommend more permanent solutions. Upon the recommendation of the Commiss.Lon, the National Rice and Corn Corporation (NARIC) was established in 1936. It was tasked with ensuring a steady supply of rice at a price which was within the buying power of consumers and which acknowledged the farmers' cost of production and allowed them a reasonable margin of profit. NARIC attempted to meet both objectives by well-timed importations and local purchases at a fixed price which was announced in the strategic surplus regions before the harvest season. Appendix Table A2.3 shows that the domestic price of rice did not increase after 1936 although output declined again during crop years 1937-38 and 1938-39. NitRIC had been more successful in stabilizing prices before World War II because it had political support and adequate funding from the Commonwealth government then (Mears, et al., 1974).  - 55 - Government intervention in food pricing and marketing during the 1950s and 1960s followed the pattern of the pre-war NARIC. The government set support prices for farmers and ceiling prices for consumers. The Philippines remained a marginal rice importer at this time. Significant imports of rice were not allowed until the National Economic Council certified the existence of a rice shortage. Even then the legal and administrative obstacle to importing rice were formidable, and it was difficult to accurately forecast domestic rice production. These problems plagued the Garcia and Macapagal administrations during the early 1960s and contributed to their electoral defeats. The postwar NARIC and its successor agency, the Rice and Corn Administration, tried to protect the price supports for farmers and price ceiling for consumers by squeezing the marketing margin. However, inadequate financing, political interference, and poor management of stocks plagued both agencies. High yield rice varieties were introduced in the mid-1960s and marketed through a major national campaign to speed up their use. As a result of this campaign, the Philippines attained self sufficiency in rice production in the late 1960s. Export Sector Government intervention in sugar pricing and marketing started in 1934 as a result of the Jones-Costingan Act which established the quota on U.S. sugar imports. Philippine exports of sugar to the United States stood at 1.28 million short tons in 1934. The U.S. quota for the Philippines was 0.98 million short tons in 1935, and 1.0 million short tons in 1936. The Philippine Independence Act limited the amount of Philippine sugar which could enter the U.S. duty free to 0.98 million short tons in raw value in 1937.  - 56 - Because Philippine sugar exports in 1934 were higher than what was allowed by the quota for that year, the Governor General of the Philippines approved a sugar limitation bill in December 1934. This b:ill was designed to bring Philippine production in line with the U.S. quota while allowing for domestic consumption and reserve stock. The Governor General was responsible for setting and allocating produiction quotaLs. After the inauguration of the Commonwealth Government this function was transferred to the newly established Philippine Sugar Administration. The Sugar Limitation Act guided the allocation of sugar until 1973. The allocation system stipulated under this Act consisted of: (a) the export quota, which dictates how much each mill and planter will contribute to the total export quota; (b) the domestic quota, which millers and planters must provide for before they are allowed to export; and (c) the provision for a reserve quota. During the 1950s and 1960s, the sugar price in the United States was almost always higher than the world free market price. Philippine sugar planters and millers therefore received an export premium over the world price on their exports. The domestic quota which producers were required to fill before exporting was designed to ease the pressure of price on domestic sugar consuimers. The domestic price of sugar was lower than the export unit value but higher than the world free market price. There were not induistry-specific policies on coconut production until the 1960s. Before then only minor taxes were imposed in order to finance the operations of the Philippine Coconut Administration which was established in 1954. For the sugar,--and coconut industries, and the rice and corn industries, general macroeconomic policies were important determinants of industry profits and performance. The overvaluation of the peso during the  - 57 - 1950s reduced the potential profitability of sugar and coconut farming and discouraged investment in coconut processing. The peso devaluation in 1962 and favorable export prospects encouraged expansion of sugar and coconut production. Phase III (1970-1982) Food Sector Another "rice crisis" emerged during this period and precipitated more active intervention by the government in the food sector. Poor weather, pest infestation, and the great Central Luzon flood of 1972 led to a 17 percent drop in rice production during crop years 1971/72 and 1972/73. The production shortfall occurred in the midst of a worldwide rice shortage which pushed the world price of rice upwards by three to four times. The government imposed price controls and used rationing and the mixing of rice and corn to keep the domestic price of rice below the prevailing world price. To recover from the crisis and regain self-sufficiency in rice production, the government embarked on a major production, credit, and extension program, the so-called Masagana-99 program. The purpose of the program was to further promote the adoption of high yielding varieties and thereby increase rice yields. At the same time, the government subsidized the use of fertilizer for rice and corn farmers. By 1976, the country had largely recovered from the rice crisis. The rice and corn agency, renamed National Grains Authority (NGA) in 1972, expanded its range of control. NGA imported wheat for flour millers in 1974 because it was exempted from paying tariffs on wheat. This allowed flour millers to produce flour at the government-mandated ceiling prices. In 1975, NGA was given the exclusive right to import wheat. Later on, it further expanded its control to include the domestic procurement and  - 58 - exclusive importation of mungbean, soybean, and other feed ingredients (David, 1983). During this time the government also established the Food Terminal, a large processing and marketing complex. Through the terminal and its retail outlets, basic: foodstuffs were offered at low prices in poor urban areas. In 1980, the Food Terminal and its outlets became part of the expanded operations of the NaztiorLal Grains Authority. Export Sector Explicit taxation of agricultural and mineral exports began in 1970. At this time, the peso was devalued in order to stabilize prices and general revenue. In addition, less processed goods were taxied more heavily than highly processed goods; as; a way of encouraging further,domestic processing of exports. When the world prices of sugar and coconut shot up in 1973-74, the government, imposed an additional surchiarge on these products called the export premium tax. During the 1970s, the government intervened more actively in the sugar industry by establishing a government monopoly in sugar trading. In order to stabilize domestic sugar prices, the government ordered the Philippine National Bank to purchase the sugar and PNB's subsidiary, the Philippine Exchange (PHILEX), to handle all sugar exporting. (The Philippine National Bank has been the major financier of the sugar industry- through crop loans to planters and investment loans to millers.) Previously the government role had been limited to regulating sugar quotas and carrying out research anc! extension with the private sector. The government monopoly in sugar continued throsugh the 1970s despite the losses that PHILEX arnd the sugar inidustry incurred in 1975-76. Anticipating a further increase in world sugar prices, the agency held onto its stake until prices collapsed. In 1977, the government expanded the  - 59 - powers of the Philippine Sugar Commission (PHILSUCOM) and set up its subsidiary, the National Sugar Trading Company (NASUTRA), to handle the monopoly sugar trading. Continuing the government monopoly trading in sugar despite the PHILEX fiasco fits with the government's preference for a "single agency" concept. Under this concept a single trading agency replaces a system of individual sellers, brokers, and middlemen. The single selling agency allegedly permits better control of supply, more efficient marketing, and a stronger position for the country vis-a-vis external countries and companies (Marcos, 1976, pp. 112-115). Government intervention in the sugar industry was further expanded when PHILSUCOM and NASUTRA acquired the leading transport enterprises for sugar and sugarcane and the bulk storage and handling facilities for sugar exports (Marcos, 1980, p. 61). PHILSUCOM also established new sugar refineries and operated sugar centrals. The government also intervened actively in the coconut industry during the 1970s. The impetus was provided by the sharp increase in the world price of coconut oil. This increase adversely affected the domestic producers of coconut-based consumer products who were subjected to price controls in their own markets. Starting in 1973, a levy was imposed on coconut producers in order to generate a subsidy for these producers. Later, the coconut levy was used to finance two controversial programs for the coconut industry: the vertical integration program, and the replanting program. The vertical integration program was designed to make farmers owners of coconut trading and processing firms. The procedure was to purchase a bank and use it as the implementing institution for purchasing coconut oil mills. The firm that was created to do this, United Coconut  _ 60 - Mills, Inc.., (UNICOM) eventually dominated the coconut oil milling industry. A coconut replanting program was promulgated in 1974 but actual replanting did not begin until 1980. The program involved the use of a particular high yield coconut variety from the Ivory Coast. The program was controversial because the government's top coconut administrator was the only Philippine franchisee for the variety and his coconut seed nut farm stood to profit handsomely from the arrangement. The policy formulating and implementing institutions in the coconut industry were headed by the same individuals who managed the sugar industry. This provided opportunities for rent seeking and personal gain. Phase IV (1983-1987) The economic crisis that took place after 1983 led to political liberalization and reforms in government intervention in the economy. Some political liberalization began when the Marcos regime held elections and allowed more criticism from the press during 1983-85. However, the real liberalization came about when the administration changed after the February 1986 'revolution'. The macroeconomic environment during the 1980s has undergone a lot of change. In the early years, tariff rates were reduced and interest rates were deregulated. Elowever, the 1983 balance of payments crisis halted the trade liberalization process. Trade and exchange controls were instituted at the same time that. the peso was devalued, partly because the debt moratorium had greatly restricted trade credit flows to the Philippines. The Central Bank drastically increased the domestic interest rate, helping to trigger arL economic recession. The adjustment measures were relaxed in 1985 and again after February 1986. The new government put into place an economic recovery program that combined a substantial fiscal stimulus and institutional and structural reforms.  - 61 - In the agricultural sector, some pressures for reform came from the sugar and coconut industries. However, during the Marcos regime, the strongest pressure for policy reforms came from the International Monetary Fund and the World Bank. In 1985, these institutions required the Philippine government to privatize the Philippine sugar and coconut industries and to reduce the control over the industries held by two prominent business partners of the President. In response, the government conducted two interagency studies on the sugar and coconut industries, dissolved NASUTRA and replaced it with a private marketing body (the PHILSUMA), opened domestic sugar trading to the private sector, moved to dissolve UNICOM, and expanded the membership of the boards of directors of the Philippine Coconut Authority and the Philippine Sugar Commission. The establishment of the new government in 1986 strengthened the privatization of the two industries. From that time on the new government has focused more on the regu,latory than the trading function.  Chapter 3 Prices and Measures of Price Interventions Direct price interventions refer to price contro:Ls or subsidies, explicit or implicit exports, taxes on imports or domestic products, and quantitative restrictions. Indirect price inteirventions include industrial protection and manipulation of the exchange rate away frorn the free trade equilibrium exchange rate. In this study the Philippines is assumed to have a small open economy, so world prices are taken as given. The net effect of direct price interventions on the relative prices of agricultural products is determined by measuring the difference between the actual relative prices and the relative prices that would have prevailed in the absence of direct price interventions. Non-intervention prices are obtained by looking at the relative border prices at the official exchange rat:e, adjusted for marketing costs. Similarly, the net effect of direct ancL indirect price interventions on the relative prices of agricultural products is determined by measuring the difference between the actual relative prices and the relative prices that would have prevailed without the interventions. The latter price is obtained by looking at the adjusted relative border prices at the free trade equilibrium exchange rate. Product Selection and Prices The four dominant agricultural crops in the Philippines are examined here: rice, corn, sugarcane, and coconut. Rice and corn are the country's major foodgrains, and both are importables. Corn also is a major foodgrain. Sugarcane and coconut are the most important tra,ditional export crops. In 1986, the four crops together accounted for 86 percent of total harvested area and 55 percent of total agricultural crop value added.  - 63 - The assumption of a small open economy is reasonable for the analysis of these four crops. The Philippines is a small producer, importer, and exporter of rice, corn, and sugar. Although the country is the world's largest producer and exporter of coconut and coconut products, its coconut products are easily substituted with competing products such as palm oil and soybean oil. Furthermore, coconut oil, the most important by- product of coconut, constitutes only a small portion of the world trade in vegetable oils. Because the islands of the country are so widely dispersed, the choice of which domestic prices to use for each crop in the analysis is somewhat arbitrary. In this study, wholesale and retail prices in Manila are used as the standard, and the standard' for producer prices is the average for the whole country. National producer prices have been averaged because three of the four crops are widely produced in the country. The prices used in the study are those of shelled yellow corn at the producer, wholesale and retail levels; centrifugal sugar (970) at the millgate (producer) and wholesale levels; brown sugar (970) at the retail level, unmilled rice (or palay) at the producer level; milled rice at the wholesale and retail levels; and copra (dried coconut meat) at the producer and wholesale levels (copra is not sold at the retail level).1 The domestic producer prices for palay, shelled yellow corn, and copra represent the national average of prices received by farmers, taken from the annual surveys of the Bureau of Agricultural Economics (BAEcon). A milling recovery rate of 65 percent was used in converting the price of 1/ Copra is processed into coconut oil and copra meal/cake. Desiccated coconut is another important coconut by-product, processed from young coconuts.  _ 64 - palay into its milled rice equivalent. The producer price for centrifugal sugar is the millgate price, computed as the weighted average of the export price of sugar ex-warehouse from the Victorias central, and the wholesale price ex-central delivered Manila. The two weights represent the proportional share of product being exported, and one minus that share (Nelson and Agcoili, 1983). The millgate price from 1974 to 1986 is the composite price paid or pegged by PHILEX/NASUTRA/SRA, which is a weighted average of the export price, the domestic price, and the price of reserve sugar. During the import years (1960-77), the border price of rice is the unit value of c.i.f. imports. During the export years (1978-83), the price of Thai rice is 35Z brokens f.o.b. Bangkok. During the years the Philippines did not import (1961, 1969-70) or was a marginal importer (1984-86), the price of Thai rice was 35Z brokens, adjusted for transport cost between Manila and Bangkok. During 1960-69, the border price of corn is the price of Thai corn f.o.b., Bangkok, adjusted for the transport cost (assumed to be 10 percent of price) between Manila and Bangkok; at this time the Philippines was a marginal importer of corn. Beginning in 1970, the border price of corn is the unit value of corn c.i.f.. imports. The border price of copra is the unit value of export f.o.b. or, if there were no copra exports, the unit value of coconut oil exports f.o.b. in copra terms. The border price of sugar is the export unit value f.o.b. or the spot price set by the International Sugar Organization Agreement (ISA). For the 1960s the ISA spot price is adjusted by the average ratio of the Manila f.o.b. price to the New York c.i.f. price so as to take into account the transport cost from Manila to the sugar-importing countries. Although the ISA price is essentially a "dumping price", it provides an indication of the premium enjoyed by U.S. sugar quota holders during the 1960s.  - 65 - Border prices for rice and corn were adjusted by the ratio of actual annual producer prices to wholesale prices. The border price for copra was adjusted by the average ratio of producer prices to wholesale prices during 1960-72, before the imposition of the production levy. For sugar, the millgate (producer) price was compared with the unadjusted border price; the direct comparison seems reasonable because much of the sugar export is coursed through Negros and Iloilo, not Manila. Because of the additional transportation and handling costs associated with exporting, border prices at the wholesale level used in the study are higher than what they should be. This overestimates the extent of negative protection, particularly for export crops. Because of data limitations these costs have not been included in the study. The conclusions drawn from the analysis are not expected to be materially affected by this omission. Domestic and Border Prices Figure 3.la presents the producer, wholesale, retail and border prices of-rice relative to the non-agricultural price index (Pna). Figure 3.1b presents the nominal producer, retail, and border prices of rice (in logarithm). Similarly, Figures 3.2a to 3.4b present the corresponding prices for corn, sugar, and coconut. The Pna was constructed from the national income accounts. It was estimated by dividing the value added of mining, manufacturing, utilities, construction, and services at current prices by the value added of the above sectors at constant prices. Rice Domestic rice prices are relatively stable compared to border prices (see Figures 3.1a and 3.1b). When the world price of rice was extremely high, as in 1973-74, the domestic retail price of rice was much lower than the border price even though rice was imported. Domestic rice prices also did not remain constant relative to non-agricultural prices.  - 66 - Specifically, the domestic retaiL, wholesale, and producer prices of rice tended to rise relative to Pna during periods of domestic shortfalls and decline relative to Pna during periods of self sufficiency or marginal surplus. Shortfalls occurred in the early 1960s and 1970s and between 1984 to 1985. Self sufficiency was attained in the late 1960s and 1970s and early 1980s. A regression analysis was run on the producer price of rice (PPr) with respect to the border price of rice, with and without ER dummy for the years 1973-75. During this period the world price of rice was very high, domestic supply was constrained, and domestic price controls were implemented aggressively. The re!sults of the regressions are presented in equations (1) and (2) below (t-values are shown in parenthesis). (1) ln PP = -0.101 + 0.811 ln BP - 0.420 Dummy r (-1.71) (12.3) r (-2.60) 2 = 0.92 F = 92.9 1961-1986 D.W. = 1.85 CORC (2) ln PP = 2.151 + 0.038 ln BP r (0.83) (0.40) r R = 0.96 F = 311 1961-1986 D.W. = 1.92 CORC The first regression indicates that, escluding the years 1973-75, the elasticity of the domestic producer price with respect to the border price (in pesos) was 0.81. This suggests that movements in the border price were not fully reflected in the domestic producer prices even during more normal periods. The second regression indicates that during unusual years as in 1973-75, domestic food prices tended to move independently of border prices.  - 67 - During 1960-86 the peso-dollar rate increased at a compound rate of 8.9 percent per year, while the border price of rice in dollar terms rose at a compound rate of 2.4 percent per year. Equation (1) indicates that, excluding the years 1973-75, peso devaluations contributed nearly 74 percent of the increase in producer prices during this period. Increases in the world price of rice contributed only 20 percent. Regressions also were run for specific subperiods, but these did not yield statistically significant relationships. This suggests that the domestic pricing policy for rice tended to stabilize in the short run even if in the long run domestic prices move with border prices. Corn The border price of corn tended to follow closely the border price of rice (see Figures 3.2a and 3.2b). As with rice, the domestic price of corn relative to Pna tended to rise during the 1960s and early 1970s and decline during the late 1970s and early 1980s. The major difference between the two pricing regimes is that domestic corn prices were higher than their border prices, except in 1973-74. The differential pricing of corn reflects the protectionist policy of the Philippine government with respect to corn, an importable crop. Regressions of the domestic producer price of corn with respect to the border price, with or without a dummy for 1973-75, are as follows (t- values in parenthesis): 1961-1986 (a) ln PP = 0.010 + 0.899 ln BP - 0.254 dummy cn (0.22) (22.3) cn (-2.32) Rt2 = 0.97 F = 247 D.W. = 1.90 CORC  - 68 - (b) ln PP = -0.029 + 0.878 ln BP cn (-0.59) (18.8) cn R2 = 0.96 F = 308 D.W. = 1.83 CORC 1961-1969: (c) ln PP = -1.451 - 0.123 ln BP cn (-4.81) (-0.73) cn R = 0.68 F = 9.6 D.W. = 2.24 CORC 1970-1986: (d) ln PP = -0.024 + 0.911 ln BP cn (0.44) (10.1) cn R2 = 0.92 F = 87 D.W. = 1.65 CORC Unlike rice prices, domestic corn prices closeLy followed border prices, even during years of peak world prices. However, the relationship between domestic and border prices is not statistically significant during the 1960s, perhaps because corn imnports were marginal at this time. The relationship is statistically significant and relatively strong for the period of the 1970s and early 1980s. Over the period, devaluations of the peso contributed 74 percent of the increase in the producter price of corn. Increases in the world price of corn contributed 25 percent. For the subperiod 1970-86, the devaluations and increases in world corn prices contributed 54 and 26 percent, respectively of the increase in producer prices. The peso devaluations and increases in world corn prices during the subperiod account for less change in producers prices because protectionism was on the rise at this time.  - 69 - Sugar Figures 3.3a and 3.3b compare the domestic and border prices of sugar. They indicate that domestic sugar prices tended to be more stable than border prices. The concern for price stabilization at the retail level is best shown during 1974-75, when the retail price of sugar was even lower than the producer price. This was because the price pegged for the domestic sugar quota was much lower than the price for the sugar export quota. The ISA price also was more volatile than the Philippine export unit value. This reflects the very low ISA price, the stabilizing impact of the U.S. sugar pricing and import policy during the 1960s, and the long- term export contracts the Philippines entered into during the early 1980s. A regression analysis was run of the producer price with respect to the two alternative border prices. Again, the dummy variable for 1973-75 was not statistically significant. The regression yielded the following elasticities. Elasticity of the Producer Price with Respect to Border Price if the Border Price is Subperiod Export Unit Value ISA 1961-86 0.35 0.18 1961-69 0.80 n.s. 1970-86 0.32 0.19 n.s. = not statistically significant. These elasticities were used along with the compound growth rates of the border price of sugar in dollar terms and the peso dollar rate to  - 70 - estimate the effect of changes in the border price and exchange rate on producer prices. The results are presented below. Contribution (in percent) to the Movement in Producer Price Assuming the Border Price is Period Export Unit Value ISA Border Price Peso Border Price Peso ($) Depreciation ($) Depreciation 1960-86 14 27 5 14 1960-69 21 50 0 0 1970-86 27 35 7 21 The domestic producer prices for sugar were more insulated from movements in border prices than were the domestic producer prices for rice and corn over the period. Rice and corn generally are regarded as political commodities in the Philippines; therefore, one might expect their domestic prices to be more insulated from movements in world prices. However, rice and corn weigh heavier than sugar in the budget of consumers. As a result, consumers may pressure fEor domestic rice and corn prices to follow world prices, especially when the world prices of the products decline relative to those of other products. In addition, the divergence between the border price and the domestic price of sugar was caused by explicit and implicit taxation that benefited the consumers and the government at the expense of the producers. However, recent experience in the Philippine sugar industry indicates that too much taxation can hurt an industry that is vulnerable to fluctuations in world prices. The estimation of elasticities and analysis of producer price movements also shows that domestic prices were the most insulated during the 1970s and early 1980s; it also shows that the export urLit value is a  - 71 - better measure of the border price than the ISA price in determining the domestic producer price of sugar. Finally, as with rice and corn, the peso depreciation explains most of the increase in producer prices of sugar over the period. Coconut Between 1960 and 1986, copra prices showed much more variation than did rice, corn and sugar prices. There were five major price cycles dating from 1969. The marked cyclicity of copra prices stems from the long gestation period before coconut trees bear nuts, the susceptibility of coconut trees to typhoons and drought which the Philippines experienced with more frequency and greater intensity during the 1970s and early 1980s, and the tendency of coconut trees to yield less the year after a good harvest. The large fluctuations in copra prices over the past two decades may have been instrumental in shifting the demand for coconut oil to palm oil and other competing vegetable oils. The history of fluctuations in copra prices has made price stabilization an important policy concern of the current Philippine government. Unlike rice, corn and sugar farmers, coconut farmers did not benefit from price stabilization over the period. The producer price of copra was lower than the adjusted and unadjusted border price. The price stabilization scheme instituted for the coconut industry during the 1970s was meant for the consumers of coconut by-products; hence, the name Coconut Consumers Stabilization Fund. Regression equations were run of the producer price of copra with respect to the border peso price. The dummy variable for 1973-75 was excluded because it turned out not to be statistically significant. The results of the regressions are given below; t-values are presented in parenthesis:  - 72 - (1) 1961-86: In PP - -0.36 + 0.89 ln BP cp (-11.4) (26.8) cp R = 0.96 F = 3.23 D.W. = 2.00 Cochrane-Orcutt (2) 1961-69: ln PP = -0.40 + 0.76 ln BP cp (-13.6) (15.7) cp R2 = 0.92 F = 49 D.W. = 2.04 Cochrane - Orcutt (3) 1970-86: ln PP = -0.44 + 0.96 ln BP cp (-5.9) (14.1) cp R2 = 0.92 F = 96 D.W. = 2.00 Cochrane - Orcutt The regressions indicate that domestic producer prices were very responsive to movements in the border peso price of copra. Furthermore, all of the increase in producer prices over the period is explained by the decline in the peso-dollar rate because the compound growth rate of the border price of copra in dollar terms is zero between 1960 and 1986. Measures of Intervention Three measures of interviention are examined here: the nominal rate of protection from direct price interventions (NPRD), the nominal rate of protection from direct and indirect price interventions in the short run (NPRST), and the nominal rate of protection from direct and indirect price interventions in the long run (NP]RLT). The difference between the last two is that NPRLT considers the impact of the exchange rate adjustment on the price level in the non-agricu:Ltural sector while NPRST does not. All three measures were computed at the producer and retail levels.  - 73 - Let Pij = domestic price of good i at the jth marketing chain (i.e., producer level or retail level) BPOij = border price of good i in domestic currency at the official exchange rate adjusted to the jth marketing chain Pna = non-agricultural price index Pna* = non-agricultural price index under a free trade regime and equilibrium exchange rate Pna2 = non-agricultural price index under a free trade exchange rate E* = free trade equilibrium exchange rate Eo = official exchange rate E2 = free trade exchange rate Then, the nominal rate of protectiQn from direct price interventions at the jth marketing chain, i.e., NPRD(j) where j is producer (P) or retail (R), is: NPRD(j) BPO.. P.. - BPO.. BPO. ij The nominal rate of protection from direct and indirect price interventions in the short run at the jth marketing chain, i.e., NPRST(j) where j is producer (P) or retail (R), is:  - 74 - P.. BPO.. E* Pna Pna -Eo NPRST(j) =-iPil E Pa * -E- ij ij Pna Pna E- NPRST2(j) = -----------------