DOF Economic Bulletin on the 2nd Quarter GDP: Response to Ben Kritz’s TRAIN Wreck

Ben Kritz hits government for being “completely adrift when it comes to economic policy and management” and his reason is that “the estimated second quarter GDP growth xxx figure is almost 10 percent higher than the actual GDP result. Kritz should be informed that government’s targets are annual and quarterly actuals may depart from this level. While the economy expanded less than the target, it can still catch up in the second half since many of the projects in the Build Build Build program are scheduled for full implementation in the second half. Note that the NG deficit in the first half is only 2.3% of GDP. Also, economic policy and management involves more complicated issues than formulating targets and therefore should not be made the basis for effectiveness.

And then he goes on to advice government to moderate its aggressiveness and consequently, its expectations, on the economy’s performance. Accordingly, such aggressiveness is best epitomized by the “sweeping Train tax reform agenda” which, he concludes, is “wreaking havoc on the economy” because TRAIN has largely fueled the perception that “prices are higher because of taxes.” Mr. Kritz argues that it doesn’t matter where inflation is coming from.  So after concluding that TRAIN wrecked the economy, he says that it does not matter if TRAIN really caused it. To him, wrong perceptions “may be true”.

First, we believe that the source of inflation really matters. For example, oil prices have spiked in 2018. In 2018Q2, International crude oil prices increased by as much as 50% as compared to only 9.1% in the same quarter of 2017. Also, the proper pricing of tobacco products was finally reflected in 2018, following the takeover by JTI of Mighty’s operations. Tobacco price inflation in 2018Q2 was 28%, thrice the 9.2% price increase in the same quarter of 2017. Even if tobacco accounts for less than 1% of the CPI, it nevertheless contributed to 0.4 percentage point to the 4.8% second quarter average. TRAIN’s contribution to inflation is minimal.

To put things in perspective on the effects of inflation on consumption, we have to compare the growth rate of consumption in nominal terms and inflation. In 2018Q2, consumption grew by 10.4%. Inflation, based on consumption deflator, is 4.5%. The difference gives real consumption growth of 5.6%. What Mr. Kritz did was to (wrongly) compare the 5.6% consumption growth in real terms and July’s CPI inflation rate of 5.7%, thus giving the impression that consumption contributed “nothing to economic expansion.” But it did, by 5.6%.

So it’s not entirely government spending that accounted for the second quarter growth. Government spending and public investment did help propel growth. Public construction surged by 21% in the second quarter and private construction is also picking up rising to 7.9% in Q2 from 6.7% in Q1. This could rise faster in the second half due to the robust 49% rise in FDI inflows in the first five months and the 19% rise in bank loans in the first half. All together, investment grew by 20.7% in the second quarter. And that’s precisely what economic policy makers want to achieve: to make growth more investment-driven because investments beget more investments, which in turn, make growth not only higher but also more sustainable, that is, growth that does not stoke inflation. Thus, we continue to be aggressive.

At the same time, we are fixing the tax system by making it flatter and broader so that growth becomes more inclusive. We should not forget that TRAIN1 also reformed personal income taxation such that it corrected for bracket creeping, among others.


Leave a Reply

Your email address will not be published.