Investor sentiment may swing more forcefully in the Philippines’ favor with two of the top three credit ratings firms having upgraded their outlooks on the country’s currency ratings. Fitch Ratings yesterday announced a "stable" outlook, up from negative, citing the government’s improving fiscal performance and a "more settled" political environment. This followed last Thursday’s Moody’s Investor Service declaration that its outlook on the Philippines’ creditworthiness remained negative. The ratings firm cited lingering political worries and a question mark on whether the government can really raise more tax revenues from the new value-added tax (VAT) law. Standard & Poor’s Ratings Services, however, later that day said it had revised its outlook to stable from negative, pointing to "revised expectations concerning the prospects of policy continuity and adherence to fiscal consolidation." MARKET REACTION Financial markets, which last Wednesday reacted negatively to unconfirmed reports regarding Moody’s move, had rallied on Friday, with the peso hitting 51.455 to the US dollar, its highest level in over three years. The local currency gained initially yesterday following news of the Fitch upgrade, but closed at P51.585 to the dollar. T-bill rates, meanwhile, fell ¬ an improved outlook bolsters confidence a country can pay its debts. The stock market was basically flat, and analysts said investors remained cautious. All three ratings firms cited politics as a threat, with Fitch warning that economic gains remain vulnerable, especially with moves to amend the 1987 Constitution and fresh attempts to oust President Gloria Macapagal Arroyo. The government, which had gone into damage control mode following the Moody’s announcement, welcomed Fitch’s outlook upgrade as "in line with market sentiments and expectations." Speaking in Kabugao, Apayao, Mrs. Arroyo said "Our fiscal reforms are beginning to bear fruit ... I want to thank Fitch for the outlook upgrade." Finance Secretary Margarito B. Teves, however, said the government is not about to rest on its laurels. "While we’re pleased that our efforts are beginning to bear fruit, we recognize that much still needs to be done," Mr. Teves said in a statement. "We remain focused on achieving our 2006 fiscal goals, particularly our revenue collection targets, so that we can go on investing in critical infrastructure and social services ... while continuing to maintain fiscal discipline." The administration aims to narrow its budget deficit to P125 billion this year from P146.5 billion in 2005, on the way to achieving a balanced budget by 2008. It also wants to cut outstanding debt, now at P3.91 trillion, to a little over half of GDP from more than 70%. PAY THE CORRECT TAXES Later in the day, Mrs. Arroyo asked the public to pay the correct taxes, noting Fitch’s precondition that tax collection has to improve for a credit rating upgrade. "We must pay the correct taxes so investor confidence in the Philippines will continue to increase," she said in a discussion aired live over government television. She was seconded by Mr. Teves, who joined her in the discussion. First Grade Holdings managing director Astro del Castillo, who was also at the roundtable discussion, said ratings firms "will have more confidence in the Philippines if electoral reforms are implemented, for one." INCREASED OPTIMISM Fitch joins the increasing number of foreign and local analysts who now look at the Philippines with increased optimism. Growth during the last quarter was surprising, allowing the government to exceed forecasts. The full-year deficit of P146 billion was also substantially lower than the P180-billion cap. Earlier last week, the government announced that the California Public Employees Retirement System had raised the country’s ranking in its list of permissible investment sites. Investment bank Lehman Brothers has likewise commended Philippine’s fiscal and economic gains, saying it is well one its way to a "virtuous cycle." Fitch, meanwhile, also affirmed the Philippines’ ‘BB’ foreign currency issuer default rating and ‘BB+’ local currency rating. The country’s short-term issuer default rating at ‘B’ and country ceiling at ‘BB’ were also affirmed. S&P, in addition to revising its outlook to stable from negative, affirmed its ‘BB-/B’ foreign currency and ‘BB+/B’ local currency ratings. Moody’s has a ‘B1’ rating, and said it would only upgrade its outlook when the target 2006 deficit of P125 billion and fresh VAT revenues of P75 billion are achieved, along with "public confidence" on economic policies. UPGRADE EXPLAINED "The good 2005 fiscal performance and 2006 fiscal outlook, together with a more settled political environment, warrant the change in outlook," said James McCormack, Head of Asia Sovereigns at Fitch. A revision in the country’s outlook to stable from negative means that its current rating may be maintained in the near term. This bodes well for the government because it will not have to contend with increasing borrowing costs. The Philippines, Asia’s most active issuer of offshore debt after Japan, sells bonds at home and abroad to fund its budget deficit and pay off maturing debt. The implementation of the new VAT law, said Mr. McCormack, is expected to help the national government reduce its deficit to 2.1% of the country’s total economic output and at the same time increase its primary surplus to 3.4% of gross domestic product (GDP). Mr. McCormack however noted that the government would have to double its efforts in the medium term if it wants to prevent its credit ratings from being downgraded. "Even with the VAT in place, government revenue relative to GDP is the second-lowest of all rated sovereigns, and it is as yet unclear how or whether it will increase to meet mounting spending pressures, which we believe to be forthcoming. "A more significant fiscal adjustment than that undertaken to date will be required to avoid a recurrence of downward pressure on the sovereign ratings," he said. Fitch noted that interest payments are likely to account for 36% of government revenues this year. According to the country’s economic managers, the new VAT law will bring in P75 billion annually. Fitch also said the Philippines’ will continue to enjoy a strong external sector as current account surpluses are expected to continue, courtesy of steady dollar inflows from the more than eight million Filipino expatriate workers. But Fitch said it expects real GDP to expand by only 4.5% in 2006, lower than the government’s target of 5.7-6.3%, as rising real interest rates and the tight fiscal policy weigh on economic growth. It noted that investment in the Philippines continues to be the lowest in Asia, at 15-16% of GDP. "In Fitch’s view, such low investment will not lift medium-term growth enough to reverse the decline in real per capita income relative to the rest of Asia." IMPACT ON BORROWINGS University of Asia and the Pacific economist Victor A. Abola, meanwhile, said the ratings outlooks will not have an immediate effect on the government’s borrowing strategies since it is still awash with cash following last month’s dollar and eruo bond floats. The government has already raised $2.2 billion or more than 70% of its $3.1 billion requirement for 2006. - Karen L. Lema/BusinessWorld
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