Bernardo M. Villegas
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Rebalancing Strategy
published: Mar 31, 2017

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What About the Middle Class? (Part 1)

           There is no question that the most urgent task for the Philippine Government is to address  the scandal of the Philippines having the highest poverty incidence in East Asia, marginalizing some 25 to 30 million Filipinos to a state of dehumanizing poverty.  It doesn’t take rocket science to arrive at the solutions.  Some three-fourths of these unfortunate human beings are in the rural areas, most of them involved in subsistence farming or fishing.  Future Administrations must devote significantly more resources to building farm-to-market roads, irrigation systems (especially in coconut regions), post-harvest facilities and other infrastructures and services that the rural folks need to earn a decent living.  Then there are the most direct ways to address rural poverty which only the State can implement:  improve the quality of the public schools, especially at the elementary level, in the rural areas; increase the number of rural health clinics, especially maternity clinics in the countryside; and make potable water available to the rural poor.  These are the measures identified in a fifteen-country study conducted by the Global Development Network of India, in which some of the economists of UA&P-CRC participated.  I sincerely wish that we will have people in the next Administration (and in subsequent ones) who will have the integrity, competence and decisiveness to implement these measures, especially in the critical departments:  Agriculture, Public Works and Highways, Education and Transport and Communication.  We will need technocrats, not politicians, to head these departments. President Noynoy has already shown the way by appointing the right people in his Cabinet in the Department of Public Works and Highways and the Department of Education.

          We must not forget, however, the very precarious situation faced by millions of households now considered as low-middle class (they are above the poverty line but can easily fall into absolute poverty through natural calamities (such as Ondoy and Yolanda), climate change (El Nino phenomenon), or collapse of some sectors of the economy.  A few years back, the Asian Development Bank came out with a publication defining the middle class as comprising households where the daily per capita income ranges from US $2 to $20.  Using this definition, a cursory analysis of 2009 Family Income and Expenditures Survey (FIES) of the National Statistics Office,  showed that  58% of Philippine households are considered either as  very poor (23%) or poor (25%) because they fall below the international standards set by ADB.  Recently, as reported in the Financial Times (September 24, 2015), the World Bank revised its definition of poverty by raising the poverty line from $1.25 a day to $1.90 a day, the biggest change since the World Bank introduced its dollar-a-day yardstick of global poverty in 1990.  This brings the World Bank figure closer to that of ADB.  This revision may lead to a surge of the poor on this planet by as much as 148 million. I predict many of them will be Filipinos who are now considered low middle class.

          In fact, a study by the Washington-based Pew Research Centre recently revealed that the middle class is both smaller and poorer than previously thought, with hundreds of millions who have emerged from poverty in developing countries vulnerable to falling back into it (Financial Times, July 9, 2015).  As Shawn Donnan and Sam Fleming commented in the FT report, “Despite vast changes in China and other parts of Asia, large parts of the developing world have made only incremental progress.  Just 16 per cent of the world’s population lives on incomes that would take them safely above the U.S. poverty line.”  Of course, it is well known among economists that defining “middle class’ is hard and the source of much debate.  Past estimates have put the size of the global middle class at up to 2 billion people.  To illustrate this difficulty, it has been reported by the World Bank that about 670 million people rose above the $2-per-day global poverty line in the decade to 2011.  But this figure of $2 is way below the poverty line as defined in the U.S., which stood at $15.77 per day in 2011.  If we use the U.S. standard, only 16% of the world population would be above the poverty line.

          Be that it may, in the Philippines, a household with an average of five (parents and three children) in contrast with four in the U.S., would need at least P10,000 of monthly income to cover the basic necessities of food, shelter, clothing, basic education and other personal services for a minimum of decent and comfortable living.  FIES data show that households with $2 to $5 per capita daily income number about 7.6 million, comprising 41% of total.  Those with $5 to $13 would add up to about 1.8 million, representing 10% of total households in 2009.  High middle income ($13 to $27) households amount to 160, 872 (1%) and the rich account for 29,653 households, an insignificant percentage of the total household of 18,451, 541 (2009 data).  Even if we use the more recent data of 2012, the percentages would not change much.  Among these households, the middle class families most vulnerable to falling back to poverty are the 7.6 million ($2 to $5 per capita) who comprise 41% of the population.  Every responsible State must have a plan to come to their rescue because market solutions alone will not suffice to prevent them from falling into absolute poverty.  Without denying the primordial principle of the “preferential option for the poor,” it must be acknowledged that the economic dynamism of every country principally depends on the middle class.  The two most important engines of growth of the Philippine economy, i.e. the remittances from the overseas Filipinos and earnings of the BPO/KPO sector are powered by middle-class people.  Since the average earnings of OFWs range between $300 to $500 monthly, they are among the 51% of Philippine households belonging to the low-middle- or mid-middle income families.  The same can be said about the vast majority of BPO workers who earn about P15,000 to P20,000 monthly on the average.

          An area where middle income households can obtain much needed relief is taxation.  In a column in the Business World, Marvin A. Tort discusses the merits of tax reform proposals of Marikina Rep. Romero Federico S. Quimbo and Senator  Juan Edgardo  “Sonny” Angara.  Under the proposals, the tax brackets will be limited to four after three years:  1) the tax-exempt threshold, for workers earning less than P180,000 per annum; 2) 9% for those earning P180,000 to P500,000 per annum; 3) 17% for those earning between P500,001 and P10 million; and 4) 30 % for those earning beyond 10 million.  To take into account the precarious situation faced by the low-middle income households, I would suggest the following modifications, using the income classification of the FIES:    1) the tax-exempt threshold will be  for those earning less than P130,000 per annum;  2) 9% for those earning between P130,000  to  l,100,000 per annum;  3) 17% for those earning from 1,100,00 to P2,200,000; and 30% for those earning beyond 2,200,000.  By expanding the range of the households subject to the 9% income tax, we capture 51% of total  households, making sure that the tax base is not eroded inordinately.  At the same time, by combining the low-middle and mid-middle income brackets, we provide for the possibility that households in these categories can experience wild shifts in their incomes due to natural disasters or market uncertainties.  We then subject the high-middle income and rich households (comprising a little over 1% of the total) or about 190,000 households to the highest tax rate of 30%. 

          Even assuming that the reduction in personal income taxes to be paid by middle-income households would lead to a drop in total government tax revenues,  the improved take-home incomes to close to 8 million households would be, in the words of former Secretary of Budget and Management Benjamin Diokno  “good politics and economics”  (Business World, October 7, 2015).  President Noynoy is ill-advised when he fretted that there will be a runaway deficit and possible downgrade by international ratings agencies.  Mr. Diokno did not mince any words:  “That’s rubbish.  The administration can’t even implement programs and projects Congress has authorized it to implement.  Its deficit-to-GDP ratio last year was 0.6% while the target was 2.0%.  This year, the Administration would be lucky to have a deficit-to-GDP ratio of 1.0%, half of its 2.0% target.”  Knowing how low our inflation rate is and how low our loan-to-GDP ratio, I agree with Mr.  Diokno that we can even tolerate a deficit of as much as 4 to 5% in the coming years as we try to implement more aggressively the infrastructure projects we direly need.  I am sure that the next President will be better advised. (To be continued).