I THINK THE most important number to watch right now is foreign reserves.
Central Bank of Barbados (CBB) online data to February 2017 show that reserves declined by 29 per cent year-over-year (y/y) to US$329 million, which I estimate at roughly two months of imports.
This is the fastest pace of decline seen since November 2013, and we have been seeing the lowest level of foreign reserves since January 2000. This also represents the 21st consecutive month of declining reserves, suggesting that the underlying problem is not temporary in nature.
The level of reserves has been below the internationally accepted precautionary benchmark of three months, since April 2016.
The authorities have indicated that US dollar inflows are expected from the development banks, and for various tourism-related projects, as well as divestment of the Barbados National Terminal Company Limited (BNTCL).
While authorities may suggest that reserves are likely to increase in the near future based on these inflows, I want to caution that any such increase in reserves would be temporary, and would not suggest that the underlying problems have been resolved. The major factor driving reserves lower is the fiscal deficit, and until this is addressed, reserves will continue to come under pressure.
The longstanding primary fiscal deficit and Government’s increasing arrears, suggest that the Government is having difficulty honouring its obligations. They have only remained liquid because of National Insurance Scheme’s (NIS) support, and more importantly, the CBB has been printing Barbados dollars and using the excess reserves of the commercial banks to finance the Government’s obligations.
This brings me to the second set of numbers that I think are the most important to watch – the extent to which the CBB is financing the Government, and the negative implications this has for the level of reserves and the exchange rate.
The monetary base has expanded by double-digits y/y, for every month since September 2014, averaging 26 per cent per month, y/y. This expansion in the monetary base is conducted mainly in two ways – one is the CBB printing of BBD, and the other is the CBB’s usage of the commercial banks’ excess reserves to lend to the Government.
CBB online data show that the Monetary Base expanded 18 per cent y/y in February 2017 to $2.35 billion. The CBB’s holding of Government debt expanded by 47 per cent y/y in February 2017 to $2.02 billion or 72 per cent of the CBB’s total assets, up from 56 per cent in February 2016.
This demonstrates that CBB printing and financing of the Government’s spending is still underway. In addition to this, the IMF had estimated last year that about 74 per cent of the assets of the NIS is Government debt, and suggested that this development could affect the NIS’ ability to honour its liabilities. The IMF urged the Government to make contributions in a timely manner (rather than providing the equivalent in debentures) to ensure that NIS has sufficient liquidity.
A general election is due in about one year, which means that things may not operate “normally”. In such situations, Governments are typically less likely to exercise fiscal prudence and implement any major policy shifts that could possibly jeopardise their chances of staying in power.
I expect tourism and overall economic growth to continue in the one to two per cent range. I expect the CBB and the NIS would continue to finance the Government, and this will put more pressure on reserves. As I have said before, I think Barbados would benefit from the implementation of a fiscal responsibility framework, not unlike what Jamaica and Grenada have implemented under their IMF supported home-grown programmes.
I do not expect the Government to opt for an IMF programme before an election, however – but that does not mean that they may not resort to one if needed, as suggested by the Prime Minister. I believe therefore, that at some point in the not-too-distant-future, there will be an IMF programme in Barbados.
This usually raises questions about the currency and concerns about whether an IMF programme would force a devaluation. From my knowledge, the IMF recommends appropriate policy solutions, and there is a negotiation with the Government to determine which approach is preferred. Basically, you have to pick your poison.
The CBB has printed so much money that the monetary base stands at $2.34 billion, while reserves stand at US$329 million, in February 2017. This gives you a ratio of over 7:1 – which isn’t a projection/forecast by any means, but just gives you a sense of how unsustainable the current 2:1 peg could be.
To eliminate the need for printing/use of commercial banks excess reserves in the first place, fiscal spending will have to be cut by at least $ 600 million. The largest line items in the Government’s spending profile are grants to public institutions, interest payments, and public sector wages. Reductions in these areas therefore are likely to be the most important in reducing overall spending.
Whether there could be a reduction in public sector headcount or salaries depends largely on the legal restrictions, but it may be more prudent to opt for a reduction in salaries rather than a reduction in headcount, if at all possible. Layoffs carry severance costs, and could also impact unemployment and poverty levels more severely than a wage cut.
Loss-making state-owned enterprises are a big drain on the budget, which is unsustainable. Leasing these to private operators could help to boost efficiency and output. The peg at BBD2:USD1 currently seems unsustainable.
Not that a devaluation necessarily reverses the deficit on the current account of the balance of payments, but given the deterioration in reserves and the doubling of the domestic monetary base in three years, the current ratio is over BBD7:USD1, meaning that a significant correction of some sort is needed.
But underpinning all these adjustments needed, there must be an effective strategy to ensure that poverty does not rise, and that the already vulnerable are protected, otherwise an increase in social dislocation could lead to a rise in violent crime, which could affect the most valuable tourism sector, and undermine any economic progress made.
Marla Dukharan is gave this assessment in a recent interview published online by Global News Matters.
