WHAT MATTERS MOST: Choices ahead
Caribbean economies are described as small, open and vulnerable. By any definition such as spending, taxation, national debt or government employment, all Caribbean economies are big before a recession. A recession is officially two consecutive quarters of economic decline. Therefore, bigger government is expected during a recession, but it has to be temporary.
Since Independence, Barbados has had recessions in 1973 when oil prices quadrupled; in the early 1980s international recession with high interest rates; in the early 1990s with the Gulf War; 2001 with 9/11 and since 2008.
The current recession differs from the previous major recession in the 1990s in the sense that the country’s net international reserves are still relatively healthy; the unemployment has not yet gone to the heights experienced then; prices are rising but not at the rate of the early 1980s or even the average rate of the 1990s.
The economy will come out of recession, but there will still be a fiscal crisis. The difficulty this fiscal crisis presents is the contradiction in fiscal policy that is needed to help the economy. The massive current account deficit now being experienced has to be brought down but not via more taxation, therefore expenditure cuts are necessary. However, to help lift the economy out of its hole, some capital expenditure is required. This is the contradiction.
In the first oil crisis in 1973, the country experienced its first deficit on the Government current account. The response was a sales tax which failed. In the early 1980s, an IMF programme was introduced that reduced the fiscal deficit by about one-third in three years. The fiscal programme focused on rolling back the increase in disposable incomes arising from wage increases and tax concessions; new payroll taxes were introduced to finance a new unemployment insurance, health and transport levies; in addition to indirect taxes.
In 1991-92, a stabilisation tax, increasing consumption taxes, higher levies, keeping transfers and subsidies in check and scaling back capital expenditure were not enough in the initial phase. The real IMF programme was soon put in place.
In both cases, the fiscal strategy was clear; reduce the deficit via higher taxes and lower expenditure.
Since the first in 1973, the country has experienced deficits on its Government current account on four occasions: (1) 1976/77 – $1.1 million; (2) 1987/88 – $21.3 million because of the income tax cuts; (3) 1990/91 – $7.7 million spending for the election. We now have current account deficits for the last two years which exceeded $250 million. This is where the problem lies!
The current account deficit has to be corrected, and at the same time, the government needs a capital expenditure programme to boost economic activity. New taxes to reduce the deficit would be an error and no growth in capital expenditure would be a mistake. The new taxes would be an attempt to cure a structural problem with short-run measures that households and the business sector cannot bear at this time.
Bigger government can only be the way to recovery in a recession if the spending is temporary. Spending is only temporary, when it is intended to stimulate as happens with capital projects. Since 2008, the growth in Government has been in areas like transfers and subsidies; this is not one-off or discretionary.
In effect Government expenditure cuts on the current account have to be the order of the day since expected economic growth during any recovery is going to be insufficient to generate the revenue required to bring down the deficit.
Long after the recession is over in Barbados, there will be a fiscal crisis to be managed.
• Clyde Mascoll is a professional economist and former Government minister in the last Barbados Labour Party administration.