Angelo Taningco
Economist, Treasury Group

Philippine fiscal deficit for the first five months of the year totaled P138.7 billion, which is 32% lower than the government’s target. The government stated that the deficit shortfall was not a result of underspending but rather due to strong revenue collections. We support this contention with our empirical model indicating a statistically positive relationship between tax effort and fiscal balance, i.e., better tax revenue collections tend to reduce the fiscal deficit (or promote a fiscal surplus). We conjecture that robust revenue performance alongside more aggressive spending behavior by government will likely be sustained throughout the year amid TRAIN and Build, Build, Build program, and thereby bodes well for the country’s rating outlook. We maintain our full-year fiscal deficit forecast of P440 billion or 2.7% of GDP.

The fiscal balance reverted to a P32.9 billion (b) deficit in May from a P46.3b surplus in April. In May, government’s revenues grew 13% yoy to P259b while its spending climbed 12% to P291.9b. Over the January-May period, revenue collections expanded 19% yoy to P1,186.3b while spending surged 25% to P1,325.1b; we ascribe the double-digit growth in revenues and expenditures to TRAIN and the Build, Build, Build program, respectively. We expect monthly fiscal deficits to manifest throughout the year, but we still foresee the full-year fiscal deficit to be less than the government’s 3% target.

We observed the government’s tax effort (tax revenue as share of GDP) to have improved over the past years, from 12.1% in 2010 to 14.3% in 2017. In the first quarter (Q1) of this year, tax effort stood at 14.5%, the highest in 20 years. We posit that Q1’s relatively high tax effort is largely a result of the government’s first tax reform package (a.k.a., TRAIN), and we expect it to be sustained in subsequent quarters throughout the year.

There is a positive correlation between tax effort and fiscal balance: spanning the 1986-Q1 2018 period, we estimated the correlation coefficient to be at 0.66. Moreover, our regression model indicates a statistically positive relationship between tax effort and fiscal balance. Our regression results suggest that government efforts to boost tax revenue collections are instrumental in keeping the fiscal deficit at a manageable level, i.e., below the target level, given that government has been boosting its spending in order to promote economic growth. We believe that sustained improvements in tax effort will likely raise the likelihood of a credit rating upgrade following S&P’s decision last April to raise its credit rating outlook on the country to positive from stable.

Figure: Fiscal Balance & Tax Effort

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