A non-economist’s reply to the President’s economic managers on federalism

BY ANTONIO P. CONTRERAS ON AUGUST 16, 2018

Constitution series, Part 6
I AM not going to pretend that I am an expert on economics. But I have some working knowledge of economic analysis of development projects, as contrasted to financial analysis. I earned this in my previous life in academia as one familiar with socio-economic benefit-cost analysis of environment and natural resource management projects.

The main difference between financial and socio-economic benefit-cost analysis is that the former measures benefits and costs in terms of their market values, while the latter uses what we call socio-economic values using as a basis the principles of opportunity costs. For example, a piece of land would be seen in financial benefit-cost analysis only in terms of its value measured by the market price per hectare. On the other hand, that piece of land would be valued by socio-economic benefit-cost analysis in terms of its current productivity which would be lost to the economy if the land would be devoted to another use. Hence, an idle, unproductive land would appear to have zero socio-economic costs. However, environmental economists would impute on the land the value of its ecological services.

Even if it serves as a refuge for wildlife, or as a critical watershed that protects the water supply of a community, financial analysis would always see land in terms of its market price per hectare which will be a cost if purchased to build a golf course. Socio-economic analysis will however compute the economic value of wildlife, or the protective services provided to the community’s water supply, as a cost if the land is converted to a golf course because it is the value that will be lost to the economy.

In short, the application of socio-economic benefit-cost analysis rests on what resource economists would label as a with or without framework, where economic costs and benefits are computed by comparing the supply of real resources in the economy without the project, and with the project. An increase in the supply, or when the current use of the resource has a lower contribution to the economy compared to the proposed, would be valued as a benefit. A decrease in the supply, or when the current use has a higher contribution to the economy compared to the proposed, would be valued as a cost.

In financial analysis, costs and benefits are simply calculated as the depletion in the cash resources of an economy, such as in terms of government expenditures or losses of revenue, while a benefit would be valued in terms of anticipated cash inflow, such as increased productivity and income. Financial analysis does not apply the with or without framework, but tacitly operates on computing the benefits and costs using the market prices of inputs and outputs associated with the implementation of a proposed project or intervention without considering opportunity costs.

A shift to federalism is an intervention that would have serious implications on the economy. Unfortunately, what most economists are doing is not socio-economic analysis but only financial analysis. And here, it appears that they just focus on the cost side of the equation without factoring in the benefits that would necessarily follow. They anticipate only the increases in expenditures in terms of actual costs of the creation of items in the government bureaucracy, and the supposed impacts of these on prices of commodities by implying that federalism will drive inflation and interest rates to skyrocket. There is also a tendency to look at the implementation of federalism as an addition of a new layer of governance, without looking at the attendant re-deployment of assets and resources. This is a natural pitfall when one looks at market prices of anticipated expenses using a before and after analytical framework, instead of economic values that probe opportunity costs in relation to the redeployment of assets and resources.

President Duterte’s economic managers paint a bleak scenario for the economy if we adopt federalism. They point to the enormous amounts of financial resources that would be needed for the shift. However, what they fail to point out is that these are not additional resources that government should budget on top of the existing government expenditures, but are simply resources that would be redeployed.

An application of socio-economic benefit-cost analysis would reveal that a shift to federalism will not lead to a massive additional burden to government equivalent to the establishment of new items and offices. Rather, since the local government units will now be under the exclusive powers of regional states, and that many functions of national government agencies will be transferred to regional states, there will be no reduction in the supply of real resources in the economy since what will occur is simply a transfer of existing expenses from the national to the regional levels. That is, the value of the expenses that the regions will incur in paying for the salaries of transferred personnel and administrative overhead of regional offices of national government agencies (a cost) coincides with the current expenses for the same in a unitary set-up which will now be saved when these personnel and offices are transferred to the regions (which is technically a negative cost or a benefit).

What is however not factored in by the economic managers are the benefits that will accrue brought about by the redeployment, in terms of lower coordinating expenses between national and regional offices, and the concrete impacts these will have in reducing the transaction costs for processing and approval of projects, documents and decisions which will be enabled by federalism. These benefits are never considered in financial analysis, but are in fact considered as benefits in socio-economic analysis. They become negative opportunity costs, in the sense that the cost of transacting with a centrally located agency in Imperial Manila in a unitary set-up is definitely higher than if the transactions are done locally in the regions. The cost of travel and communication to maintain a link between the regional offices and the central office would be reduced, if not foregone. These items are easily computed for their market prices which even a financial analysis can cover.

But what financial analysis cannot factor into the equation would be the socio-economic value of the sense of autonomy that the regions would enjoy. After all, the political empowerment of regions is not a marketable good that can be readily calculated by economic managers who are focused only on financial burdens to the economy if we shift to federalism, but one that would yield priceless non-marketable benefits to the local political economies in the regions.

https://www.manilatimes.net/a-non-economists-reply-to-the-presidents-economic-managers-on-federalism/430969/