Edward Seaga, Contributor
All three major financial rating agencies, Standard & Poor's, Moody's and Fitch, have now made public their findings on the Jamaican economy. The results, particularly at this time, are frightening portending greater hardship for the future.
These findings are taken as bible truths by the bond market in assessing credit worthiness and greatly influence the amount and cost of loans to be raised. Not that these agencies are always accurate in their assessments. All failed to forecast the global recession which tore financial systems apart across the globe over the last two years. But then, neither did the International Monetary Fund (IMF). But in reality, notwithstanding their own failings, these agencies still command recognition and respect and their assessments are critical to the loan financing essential to Jamaica's financial future. Reliance, therefore, must still be placed on them.
This reliance arises because of a major shift in the pattern of funding Jamaican budget requirements. Up to the end of the 1980s, there was little need for approaching the bond market to fund the Budget. The source of budgetary financing was through the multilateral banks: World Bank, the Inter-American Development Bank and the Caribbean Development Bank . These provided sufficient funds, with a little top-up from commercial banks, to give the support needed to finance the annual Budget requirements.
This is no longer the case as the bond market is being tapped annually for some US$500 million. Triumphant excursions by ministers of finance abroad to raise these mega-funds every year were hailed as huge achievements. Little was it understood that this constant borrowing of such huge amounts without generating economic growth for replacement was digging a deeper hole for the pending interment of the corpse of the Jamaican economy.
The difficulties have now been compounded because most of the US$500 million borrowed annually is required to service past debt leaving little for new expenditure. In other words, the debt-financing and debt-management programme have been merely to allow the economy, drained of new financing for investment, to stand still. And indeed it has; the average rate of growth of gross domestic product over the last 10 years has been 0.8 per cent.
Budget financing
What this portends is that for the future, the bond market will cease to be the lifeline that it has been in the past. This is alarming because the two major sources of financing for the Budget: the bond market and a return to reliance on the multilateral banks, which are limited in the type and amount of financing they can provide, will offer between them much less than is required. How then does the future look? Over the next two years, there will be IMF assistance to ease the problem, but not to solve it.
The real answer to this problem of inadequate funding should be generating new revenue, particularly from projects which can produce substantial export earnings. Unfortunately, apart from the resurrection of the Jamaican bauxite/alumina industry which potentially could restore its huge revenue fallout, there is nothing else at this time that can help to close this massive budgetary gap sufficiently.
I have written about this dark future before (see 'Life beyond the IMF', Sunday Gleaner, September 13 ). But its time now to turn away from hopelessness to seek hope.
The focus now is on dealing with the $1.2-trillion mountain of debt which has made Jamaica the third-worst indebted nation in the world, an ominous accolade.
Government and the IMF are now "at one", as Hugh Shearer was fond of saying in negotiations, in recognising that whatever solutions are to be found have to start with dealing with debt. The current arguments deal with restructuring, or refinancing the debt. Each of these approaches has its drawbacks in that the debt-service payments to bondholders would be reduced. This would turn off future participation of present Jamaican bondholders in seeking new loans, creating an even bleaker future for funding the Budget. The present Government is seeking to avoid this fruitless course.
On the basis, efforts are now being focused on another aspect of the debt: reducing the exceptionally high interest rates of both the Bank of Jamaica (BOJ) and commercial banks. Reduction of interest rates would have the effect reducing the annual debt-service payments leaving the savings for Budget financing.
Major presentations
I have spoken and written on this issue of reduced interest rates in two major presentations recently: my last Budget speech in Parliament, April 2004, Finding a Fresh Wind, and in my address to the Investment and Capital Market Conference of the Jamaica Stock Exchange at the Rose Hall Hotel in Montego Bay on January 27, 10 months ago. The focus of both these addresses was the damage created to the economy by high interest rates:
When I completed my address calling for a drastic lowering of interest rates, Audley Shaw, who was sitting beside me murmured, "That's what I want." Unfortunately, he was not able to achieve this while Derick Latibeaudiere was governor of the BOJ. Latibeaudiere was following the then IMF route to keep interest rates high in order to reduce pressure on inflation and to keep the rate of exchange stable, the two principal obligations of the monetary policy of the BOJ.
Now that there is a new governor of the BOJ, Brian Wynter, he will be faced with the real nut that has to cracked to get to the kernel of the fruit: what method should be used to reduce interest rates? There are two conventional approaches:
Moral suasion has not helped meaningfully in the past. Such pressure as has been applied has resulted in token downward movements of the rates, hardly scratching the surface.
Forcing the hands of the banking industry can be done by several methods:
Sharp reduction of the BOJ bank rate, pulling the commercial rate with it. Recent BOJ reduction of rates, have been even more insubstantial and consequential decreases in commercial bank rates have been even more insubstantial;
Imposing on banks a temporary special profit tax, as I did in the early 1980s, which would send a more powerful message, a tempting move having regard to the huge super-profits being made and announced regularly by commercial banks;
Review of the cost of operation of the banking system which is the principal factor contributing to the excessive profit spread of 11.6 per cent on the average for banks in Jamaica. This is huge compared with other CARICOM countries, resulting in Jamaican bank rates being for the most part, considerably higher.
Something must be wrong. Costs in the local banking system were severely pruned at the time of the financial meltdown in the mid-1990s and modernisation of systems and upgraded technology introduced. Logically then, administrative costs of Jamaican banks ought be more or less at the same level as their other Caribbean counterparts. But they are not.
The massive multibillion-dollar profits of the big banks indicate that their profit spread is substantial and can bear a decrease of their lending rates by reduction of their operational spreads. But a special review of costs would be the better way to proceed.
Reduction of costs and rates would not necessarily mean less profits for the banks. Lower interest rates would lead to more lending and, correspondingly, could generate a relative buoyancy of profits. Lower interest rates should also lower the costs of goods and services and increased economic activity as happens everywhere else. This is the very point of disagreement with the former governor who was convinced that the outcome of increased economic activity generated by lower rates would be a surge of inflation and pressure on the exchange rate, the two areas of special monetary concern of the BOJ.
To the extent that this is theoretically possible, it would be marginal at this time because the weakened condition of the Jamaican economy would not necessarily stimulate increased economic activities at this time, but later. Hence, that threat would not exist if action was taken now. If space was permitted, I would illustrate how I was able to remove price controls without increasing prices and the importation of goods and services without increasing imports in the 1980s, despite all the fears expressed to the contrary.
Inflation
This is comparatively a safe time to change from a high interest-rate to a low interest-rate policy model with marginal negative impact on inflation and the exchange rate while stimulating lower costs, more investment, higher growth and increased jobs. Also as important in respect of the most critical problem now facing the economy is the reduced debt-service cost annually on most of the internal portion of the national debt of roughly $1.2 trillion. Reduce interest payments here would produce huge savings for government use.
There is still another way to deal with the debt problem which I will reserve for another presentation because of the far-reaching nature.
In the meantime, no further time should be lost now in substantially reducing the interest rates of both the BOJ and, consequentially, commercial-bank rates. The risks at this time are marginal and the gains to the economy very substantial. It is now time to change the system from a 20-year failure to one with possibilities for the future which cannot be worse than the past, but has promise of a much better future.
Edward Seaga is a former prime minister. He is now the pro-chancellor of UTech and a distinguished fellow at the UWI. Email: odf@uwimona.edu.jm or columns@gleanerjm.com.