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LEFT OF CENTRE – Respect but don’t fear ratings

Brent Shuffler

LEFT OF CENTRE – Respect but don’t fear ratings

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TRUE?TO?ITS?NAME, Moody’s is being moody these days, preferring to err on the side of caution rather than the side of optimism.
In the economic boom prior to 2008, the major credit-rating agencies gave high ratings to instruments (for example collateralized debt obligations and mortgage-backed securities) that later proved to be toxic assets, precipitating a global recession. At the same time, they tended to be conservative in their estimation of Caribbean sovereigns.
Having been harshly criticized for overvaluing a number of securities and entities, Fitch, Moody’s and Standard & Poor’s have recently demonstrated (1) that they are much quicker to revise their ratings and (2) that they are much more likely to downgrade than to upgrade.
And they are prepared in the post-recession era to downgrade by as many as two or three steps at a time. This is a scary prospect for any investor.
By comparison with Portugal, Ireland, Iceland, Greece and Spain, Barbados has emerged rather well from the global crisis that began with the financial sector in the United States in 2007 to 2008 and spread to affect other economies in 2009 and 2010.
Even when one compares its own past performances with the present showing, Barbados has done remarkably well.
Two recessions ago in the early 1990s, our rate of unemployment reached 24 per cent; this time, at its worst, it remains at less than half of that level.
In 1991 the country almost exhausted its foreign-exchange reserves down to $35 million; this time, it has maintained reserves well over $1 billion.
In the early 1990s, the country was faced with the real danger of an imminent and sharp devaluation of the Barbadian dollar; this time, we have no reason to fear that.
Back then, Government had no choice but to beg the help of the International Monetary?Fund. This time, Government is crafting its own policies and solutions for the short-term balancing of fiscal and social goals and for the medium-term amelioration of the economy.
Twenty years ago, massive retrenchment affected the public sector accompanied by an eight per cent reduction in salaries for those fortunate to retain their jobs.
This time the Government has limited job losses both in the civil service and in the private sector while increasing unemployment benefits from 26 weeks to 40 weeks.
On the cautionary side, the reports warn that our Government must reduce its deficits and debt, which have been persistently large and growing in recent years.
A review of similar cases worldwide emphasizes that it is much easier to resolve national deficits by reducing spending than by increasing revenue through taxation or growth.  
Intuitively, this is obvious because reduced spending has an immediate and measurable benefit whilst increased tax rates and growth-oriented measures have an uncertain trajectory both in the time lag (from legislation to implementation to feedback in official reporting and statistics) and in the quantum and incidence of their effectiveness.
As an example, the Minister of Finance increased the rate of value-added tax by 16.67 per cent and this, compounded by a 40 per cent increase in the retail price of gasoline, ensured a sharp rise in VAT receipts in recent months.
However, other areas of tax revenue have declined despite increases in fees and rates since 2008. Hence, the overall impact has been positive for the reduction of the deficit but not by as much as policymakers might have anticipated.
Only a reduction in spending can rectify the structural imbalances in the national budget and in the end, external ratings are to be respected rather than feared.