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United States The Disappearing Deficit Philippines 4Q06 GDP Rose 4.8% YoY View GEF Archive

		The Global Economics Team

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To be sure, the US still faces severe long-run budget pressures due to a demographic shift that will eventually lead to soaring obligations for the Social Security and Medicare programs.  However, the near term and intermediate picture has brightened considerably in recent years.  The main driver has been an explosion in tax payments from both individuals and corporations.  Strength in withheld and non-withheld payments by individual taxpayers appears to reflect solid job growth, a pick-up in wage rates and sizable capital gains realizations.  Meanwhile, the upside in corporate tax payments is tied to the sharp jump in profitability seen in recent years.

The major source of near-term uncertainty on the budget front involves the upcoming tax season.  We anticipate a pick-up in refunds relative to last year due, in part, to a special rebate of telephone excise taxes.  In addition, we expect to see some moderation in the growth of April non-withheld payments following the robust gains posted in recent years due to a cooling of the housing market.  However, while we still expect to see some moderation in the pace of growth in tax receipts this year, the incoming data — particularly the December corporate payments and the individual non-withheld collections for January — suggest that any slowdown will be more modest than previously anticipated.

Intermediate-term developments on the fiscal front also appear to point to lower deficits.  Most importantly, the tax cuts that were enacted in 2001 and 2003 are slated to expire at the end of 2010.  The CBO estimates that receipts would be boosted by about US$150 billion in 2011, US$250 billion in 2012 and larger amounts in ensuing years if tax rates reverted to pre-2001 levels.  While the outcome of the next presidential election will be key to the future course of tax policy, it seems likely that tax rates will be at least somewhat higher after 2010 than they are today.  Indeed, extension of the expiring tax cuts was a top priority of the Bush Administration at this time a year ago, but there was little Congressional support for tackling the issue then, and with the recent changeover to a Democrat-controlled House and Senate there is virtually no chance of any such action during the next couple of years, in our view.  So, it’s conceivable that tax rates could be significantly higher starting in 2011 than they are today (although some wheeling and dealing between the two parties seems likely). 

Another factor that might lead to smaller budget deficits over the next few years is lower defense spending.  Indeed, the post-9/11 surge in outlays for defense already shows signs of moderating, and while there is considerable uncertainty surrounding the future course of US military action, the most likely scenario would seem to be a continuation of this downtrend. 

What does the improvement in the budget picture mean for Treasury financing?  While our revised estimates do not imply a major near-term shift in borrowing patterns, coupon sizes are expected to be cut back a bit.  Indeed, we now look for a US$1 billion cut in the 3-year note that will be auctioned in February and similar reductions in the 2- and 5-year notes when the Treasury is flush with cash in late April.  The arithmetic is as follows: our budget estimates, together with assumptions for non-marketable issuance and other means of finance, imply a modest borrowing residual in both FY2007 and FY2008.  That is, we estimate that unchanged coupon sizes would require a net US$40 billion hike in bill issuance in each of the next two fiscal years (note: this assumes 30-year bond issuance of US$30 billion per year going forward).  With bill issuance having declined somewhat in recent years, we believe that the Treasury is targeting a larger rise in the volume of bills outstanding in order to achieve greater flexibility going forward.  In particular, a rise in bill supply would enhance the debt managers’ ability to respond to positive budget surprises. 

Looking further down the road, we note that a spike in the volume of maturing 5-year notes beginning in 2009 might lead to a need for increased gross coupon issuance.  Therefore, we are skeptical that the Treasury will implement significant cutbacks in the coupon auction cycle over the near term.  However, there is certainly some risk that the budget picture shows greater improvement than we currently anticipate.  Under such circumstances, we suspect that the debt managers would eliminate — or at least suspend — issuance of the 3-year note.

Finally, although the budget situation has improved, we doubt that this will have a noticeable near-term impact on Treasury market yields.  That’s because the Treasury is actually in the process of hiking issuance at the long end of the curve — both in an absolute and relative sense.  Last August, the debt managers revealed that they would commence quarterly auctions of 30-year bonds beginning in February 2007.  We expect total bond issuance over the course of the year to amount to US$30 billion — the most since 1999.  Indeed, the annualized volume of combined issuance of nominal 10s and 30s is currently running at an all-time record of US$114 billion.  And we estimate that the proportion of the outstanding supply of nominals with more than 5 years remaining to maturity (that is, old 10s and 30s) will be back up to 26.2% by the end of this year — the highest since the long bond was suspended back in 2001.

We suspect that the Treasury is boosting issuance of traditional longer-term maturities and expanding the TIPS program in order to address a potential need for long-duration fixed income assets on the part of pension funds.  However, with the Treasury yield curve currently flat or inverted everywhere but at the very long end, there is not yet any clear sign of such demand having materialized.  Moreover, relatively tight corporate and swap spreads suggest that the market is not experiencing the same type of supply pressures that were evident when the budget surplus peaked in 2000.  In sum, we doubt that the favorable swing in the budget picture will have a noticeable market impact unless it stretches out for several more years and the Treasury starts to cut back on the volume of long-dated issuance.

Philippines
4Q06 GDP Rose 4.8% YoY
January 31, 2007

By Deyi Tan | Singapore and Chetan Ahya | Mumbai

4Q06 GDP up 4.8%: The economy expanded by 4.8% YoY in 4Q06 (versus an upwardly revised +5.3% YoY in 3Q06).  This is lower than our and consensus forecasts of 5.1% and 5.0%, respectively.  GDP rose 5.0% YoY in 2H06 compared with 5.8% in 1H06.  For the full year, the economy expanded by 5.4% YoY.  In terms of pricing pressures, the deflator decelerated to 4.3% YoY (versus +5.3% YoY in 3Q06).  On an overall basis, domestic demand remained healthy at 5.4% YoY (versus +5.3% YoY in 3Q06) and external demand explained the deceleration in 4Q06.

Private consumption remained the key support: Buoyed by strong remittances, private consumption rose 5.6% YoY (versus +5.2% YoY in 3Q06), contributing 4.4 ppt to headline growth.  Public spending also picked up markedly to 9.3% YoY (versus an already upwardly revised 4.0% YoY in 3Q), likely due to disbursement from the supplementary budget of PHP 46.9 billion that was passed in September.  Capital formation was moderate at 3.4% YoY (versus +6.1% in 3Q06).  Specifically, construction fixed capex registered the greatest increase at 3.3% YoY.

External demand slowed further: The external demand slowdown flowed through, with total exports rising 7.2% YoY (versus +9.3% in 3Q06).  Total imports rose 4.0% YoY, with the net external balance growth contribution standing at a lower 1.0 ppt (versus +4.5 ppt in 3Q06).

Agriculture and industry slowed: On the supply side, the agricultural sector (+1.9% YoY) was hit by bad weather.  Industry also slowed to 3.3% YoY (versus +4.8% YoY in 3Q) on the back of a mining contraction (-24.7% YoY).  The services industry (+7.0% YoY versus +6.0% in 3Q06) registered broad-based acceleration as the transport, trade and private services sectors all picked up pace in 4Q at 8.0%, 6.1% and 8.3%, respectively.

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