Causes, effects and solution to the fiscal crisis

Definition And Effect

A fiscal crisis is a condition in which government can no longer manage its debt due to a huge budget deficit. A budget deficit, in turn, is an imbalance between revenues and expenditures in that government expends more than it earns. A widening budget deficit occurs when the bulk of government revenues, which are taxes, is used to pay debts, instead of spending them for the delivery of basic services to the people and the development of the country’s infrastructure and utilities – vital requirements for economic growth and progress.

When mishandled by government, a fiscal crisis quickly deteriorates to high inflation, high unemployment, depreciation of the local currency, drop in average incomes, political instability as well as the inability of government to render the basic needs of the country and people.

Causes

A fiscal crisis, in essence, is the result of the mismanagement of the monetary and fiscal affairs of the country. This mismanagement of the monetary and fiscal affairs of the nation has its seeds in the commission of the original sin, that is the continued and unabated resort to foreign borrowings to finance our developmental needs. This is the mother culprit that eventually leads to a fiscal crisis such as what our own government, ironically, warns us to be in now. Government itself raises upon the hapless populace the spectre of high inflation, high unemployment, further depreciation of the peso vis-a-vis foreign currencies especially that of the dollar, drop in average incomes, increase in the price of basic goods and commodities, political instability, as well as the inability of government to provide for the basic needs of the country and people.

This continued, unabated, persistent and uninterrupted resort to foreign borrowings from foreign multilateral lending institutions and agencies, foremost of which are the World Bank and the International Monetary Fund, is undeniably manifested in the foreign debt of the Philippines that stood at about $26 Billion at the end of the Marcos regime in 1986 and which has ballooned to a whopping $56 Billion that it is today.

This one track-minded approach of government in relying on foreign borrowings to fund our infrastructure and development needs has deepened us further into the fiscal quagmire because when the peso is devalued against the dollar, which happens almost all the time, our budgetary deficit invariably widens. This happens because the servicing of our foreign debt obligation is included in our yearly budgetary appropriations, which increasingly eats a larger bite off the budgetary pie, leaving lesser and lesser amounts for the basic needs of the country and people. Simply stated, with the devaluation of the peso vis-a-vis international currencies, the servicing of our international debt catapults higher and worsens the budget deficit even more.

The skyrocketing of our foreign debt has made the country a slave of the lending agencies who now effectively control the economic fate of the nation with their prescriptions and conditionalities imposed upon our economy. It should come as no surprise then that the fiscal crisis announced no less than by the President comes at the heels of the withdrawal of our contingent troops in Iraq, a move that embarassed the United States and its allies, and for which America categorically served notice that the Philippines will face a high price for.

It should have been obvious and elementary then that the wisest monetary and fiscal approach, if only to spare us from the control and strangulation of foreign governments and entities, was to finance our development projects and programs through internal borrowings secured against future taxes. The money thus raised should have been used to support our own local businessmen and companies by extending to them long-term (30 years with grace period of 5 years), low-interest credit facilities to enable them to capture the business opportunities borne out of the pursuit of local infrastructure and utilities development projects. This would have made our local companies grow and prosper and be competitive with their foreign counterparts and, in the process, would have enabled them to produce more, employ more people, pay more taxes to the government, and eventually pay-off and retire their loans. Equally important, by not indulging in foreign borrowings, we would have saved for ourselves ample foreign currency reserves that we so badly needed.

Yet, all these good things for the country and people could not come to pass as some officials in responsible positions of fiscal, monetary and economic positions could only see through their own personal benefits from a development approach that is financed through foreign borrowings.

The dice is thus cast as a result of our perennial foreign borrowings and we are now awaiting the fiscal storm that will visit us on account of governmentís official mismanagement. Even then, government would add insult to the injury upon the people by attempting to narrow the gap between revenues and expenses through two measures that, far from helping alleviate the situation, actually exacerbates the already contracting economy, thereby compounding the miseries of the people.

In attempting to balance the budget, government proposes to increase its revenues by imposing additional taxes upon the citizens and private businesses and, at the same time, attempts to lessen expenses by cutting-down on expenditures. It is reported that the government’s proposed tax measures is aimed at raising P80 Billion while its cost-cutting remedies is directed at saving P20 billion each year.

In the case of government measures to cut-down on all expenses leaving only what it deems are the most necessary government budgetary expenditures, its unintended effect and consequence is the further contraction and constriction of the economy as then both the government and the private business companies would now together refuse and be reluctant to do the investing thereby grinding economic activities to a slow-down, if not a standstill and halt. The symbiotic relationship between government and business is abruptly disrupted with this natural reaction of government to forthwith attempt to balance the budget. Indeed, government’s tendency to cut-down expenses in times of sluggishness in the business cycle is contrary to the successful Keynesian theory and formula that it is precisely in periods of economic downturns, when private business are reluctant to invest, that the government must do the investing and spending through new money raised from long-term bonds secured against future taxes in order to rev-up the economy from its slumber.

It is precisely this economic theory of John Maynard Keynes, a British consultant to President Roosevelt, that catapulted America out of the Great Depression in the 1930’s as the US relentlessly pursued an expansionary monetary and fiscal policy by massively building its infrastructure and utilities with borrowed money securitized against their future taxes.

Yet a worse measure adopted by government in periods of budgetary deficits is its attempt to bridge the budgetary gap by increasing its revenues through the imposition and collection of more taxes from private businesses and the people. This is a horrendous, if not cruel, imposition upon the taxpayers who are being singled out by government to bear the burden of increasing the coffers of government to remedy a deficit situation that was not caused by the taxpayers, but by governmental policies, directions and oversights themselves. It becomes no less a tragedy as government, which is suppose to serve the people, instead overburdens the taxpayer with more taxes as they are made to undergo a harrowing experience upon their pockets for government’s inefficiency in managing the fiscal, monetary and economic affairs of the nation.

The real effect then of the twin measure of cost-cutting and imposition of more taxes is to further contract the economy, defeating the very purpose for which the measures were undertaken and, instead, worsening the fiscal crisis as it leads to depression and stagflation – an economic state of high inflation and zero production.

The Solution

In contrast to the government’s offered solution of belt-tightening and imposing more taxes, which are self-defeating and counterproductive measures, the more responsive and responsible remedy is to embark on an expansionary monetary program designed to rev-up, propel and shore-up economic activities and thereby extricate the economy from its current economic contraction. This expansionist monetary policy consists in government’s increasing the level of money supply in circulation to a point that will enable it to expand economic activities through investments in income generating ventures, programs and projects.

This can be accomplished with government borrowing against future taxes by selling long-term bonds and securities to the central bank which shall, in turn, issue the corresponding new local money. The new local money thus created will be used to finance development projects such as the construction and establishment of infrastructure and utilities all over the country thereby catalyzing growth and expansion and creating a more favorable business and economic climate for private business to thrive in. Faced with such government assistance and more business opportunities at hand, the private sector can thus itself expand and grow, make more profits, employ more people and pay more taxes to the government. The economy, erstwhile on a downturn, could then be buoyed into expansion, thanks to governmentís direct and active intervention through investments and expenses from borrowed money secured against future taxes. In short, governmentís monetary expansion effectively arrests the economic downturn and leads to economic expansion.

While this is the lasting solution, we realize that it cannot be legally undertaken because of the prohibition under section 117 of the charter of the Central Bank prohibiting it from directly purchasing government bonds and securities and thus, barring the Bangko Sentral from actively intervening in the economy in times of fiscal and financial crises such as that we are presently facing.

It is imperative, therefore, that the Central Bank law be forthwith amended to enable and even mandate it to so intervene by providing the fresh funds and money to help expand the economy.

In the meantime, however, government will do well to finally stop, even if belatedly, our destructive habit of financial dependence through foreign borrowings. This original sin must be decidedly put to a stop if we are to address the problem at its very root.

Corollarily, government must put an end to the pernicious practice of servicing our foreign debt from revenue appropriations alone as this approach virtually leaves crumbs in the budget to appropriate for the basic services for the people, to their utter detriment and prejudice. Instead, the burden of servicing our foreign debt should be laid and sourced primarily from foreign currency income generating activities, such as in tourism, including the income from the sale of retirement homes to foreigners who could be enticed to spend considerable time here in our tropical paradise during winter times in their cold countries. In this connection, it is imperative that we forthwith and purposely develop our tourism infrastructure especially in the coastal and beachfronts which are the most attractive areas to tourists.

If, upon the other hand, more taxes are inevitable to raise more revenues, government should only make such burdensome imposition upon the taxpayers if it commits to fully support the business sector by giving them business opportunities as well as access to long-term, low-interest credit facilities.

Yet, and in sum, the most permanent solution still to the fiscal crisis is the firm commitment of government to and the actual amendment of the law to finally enable the Central Bank to frontally and effectively intervene positively in the financial, monetary and economic condition and affairs of the country such as and especially in times of fiscal crises and budgetary deficits that we find ourselves now in.

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(Editor’s note: We beg the indulgence of our readers who are at times tasked to read a lengthy piece. The purpose of our writings, however, being advocacy and not merely commentary in nature, compels us to dissect a given problem, analyze its causes and effects, and offer studied solutions. The length of the article should be irrelevant to such an approach.)