External economic shocks of the 1970s and ’80s

(Continued.)

(This is part of the paper I am preparing in connection with the 50-year review of economic policy at the UP School of Economics.)

The three major external shocks experienced in the country during the 1970s and ’80s are the most intense, with far-reaching effects on the nation’s future.

The three major external shocks. Recent experience of inflation and international economic uncertainty due to Russia’s war on Ukraine cannot compare with the external shocks of this previous period in the country’s memory in intensity.

During the late 1970s, a series of external economic shocks beset the Philippines with far-reaching adverse impact on the future.

The first of these was the energy shock, which came in two equally devastating waves. It happened first in 1974 and then another in 1979.

The 1974 shock was the consequence of the concerted move of the OPEC (Organization of Petroleum Exporting Countries), led by Saudi Arabia, to impose a blockade of oil supplies to a number of Western countries to influence the outcome of the Arab-Israeli War of that year in favor of the Middle Eastern Arab states. That was OPEC’s first effective use of the oil weapon in a geopolitical context.

A second episode of the oil shock was further stoked by the Iranian Revolution of 1979. Fear of further disruption of oil supplies led to new oil price upheavals in world oil markets.

The price of crude oil per barrel before the OPEC supply embargo was $3. But after the full impact of the supply cuts by 1974, the price of crude per barrel rose to $12. To understand more fully the changes in oil prices during those days, when Ferdinand Marcos was elected president in 1966, the going price of crude was around $1.25 per barrel. The magnitude of the price shock from $3 per barrel to the end price of $12 was almost four times as much in 1974 alone. (Yet, factoring this rise in oil prices from 1966 was almost close to a 10-fold increase in energy prices.)

The second shock in 1979 brought the price of crude to $39.50 per barrel. Taking account of the base price of $12 in 1974, this further rise in crude oil prices meant an increase in energy costs by 3.3 times, or 330 percent. Using the earlier base price of $3 per barrel, (which was the price of oil before the OPEC embargo), the second oil shock amounted to a hefty rise of oil price by 13.3 times (=$39.5/ $3) or 1,330 percent!

In 1980, the “interest rate shock” took place. Prolonged inflationary experience after the end of the Vietnam War, plus the oil shocks just discussed, hounded the American economy. In 1980, Paul Volcker, the new chair of the US Federal System, decided to unleash an aggressive policy of raising interest rates in order to choke off aggregate demand and thereby tame the inflation problem. The result was the rapid rise of US interest rates, peaking even to 20 percent.

The US economy, being also at the center of the world’s capital markets, this policy quickly led to the rise of interest rates worldwide. Heavily indebted countries needing to refinance their debts were exposed to rising financing costs. For one, Latin American countries that were in this situation suffered badly from this rise in interest rates, thus aggravating their debt situation.

The third major shock to hit the economy happened in 1983. It was political in nature: the assassination of Ninoy Aquino. Like the other shocks, it was “external” to the usual economic operations of the economy. This political shock would weaken the international confidence on the Philippine peso. To renew normal credit lines for Philippine debt became impossible.

Consequences of the shocks. These shocks caused a major disruption of the macro-foundations of the economy. The rise in import costs weakened the nation’s overall terms of trade, worsening of the nation’s balance of payments.

The domestic industrial enterprises that sold their production mainly to domestic buyers suffered most heavily, many of them going bankrupt. Their domestic sales revenues could not catch up with rising costs of production. Many of these were the enterprises that were encouraged by the import substitution framework of past industrial promotion, the product of many past leaderships in the country. Such enterprises were highly indebted to state financial institutions. In turn, the financial institutions were weakened by the failure of their borrowers.

The firms that succeeded to build some export markets were able to survive the period of crisis, unlike those that were mainly catering to domestic demand. These enterprises were also weakened by the overall economic decline. Along a contrary front, the government was rushing to build additional export processing zones in Baguio, Cavite, and Mactan, Cebu to invite export-oriented foreign manufacturing locators.

The external economic shocks would provide the government with opportunities to devise responses that, over time, would strengthen the country’s economic position. Major reforms required rapid economic diversification. Foremost among these was the response to the energy crisis. Efforts to push oil and other energy explorations would be needed and could be intensified.

Despite constitutional impediments that made it difficult to involve foreign capital in the exploration for energy, there were limited successes in finding energy sources. The Nido offshore oil fields and the Malampaya gas fields were evidence of the presence of more offshore energy wealth that could be exploited. For this, massive foreign capital would be needed.

Greater success was made possible by the abundance of geothermal resources. Government efforts to expand generation capacity in power from this domestic resource was on the way to completion. Additionally, a nuclear power plant was under on track to be finished.

The infrastructure program was financed by access to long term borrowings from development institutions, both multilateral and bilateral, supplemented by the nation’s tax effort. All these was carefully planned.

But the balance of payments during the period incurred deficits due to the sudden pressures of massive rise in the price of energy that the country had to import for its consumption needs and to support domestic enterprises in need of raw material inputs in order to survive.

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