DaviesEarlier this week Bear Sterns' senior managing director Carl Ross gave an assessment of Jamaica's debt situation and economic prospects in Miami, Florida. Below is the full text of his thoughts on the year ahead for the country.
FINANCE MINISTER Omar Davies made a presentation at the Bear Stearns Central American and Caribbean Credit Conference in Miami on January 14. I have been pessimistic on Jamaican bonds since December, due in large part to the fiscal deterioration in the first half of the fiscal year, and to the fact that Jamaican bonds had a good run for most of 2002 and looked fully priced. While the medium and long-term outlook for Jamaica is still extremely challenging, mainly on the fiscal and debt-dynamics fronts, I came away from the conference feeling more comfortable about the near-term prospects.
What are the reasons for this view? First, despite the fiscal deterioration in 2002, the government remains committed to balancing the budget by fiscal 2005-06, working from an estimated deficit of approximately 8 per cent of GDP for the fiscal year ending March 31, 2003. The effort to do this will be Herculean, which means maintenance of primary surpluses in the range of 10 per cent-12 per cent of GDP, plus some
reduction in interest rates. Is this realistic? It will be politically difficult to do this forever, but Jamaica has been running primary surpluses of this magnitude for four years in a row, so there is a track record.
Second, the election is over. Our view is that both mainstream political parties are fiscally responsible and there would have been little risk of policy slippage under a change of government, but the bottom line here is that the PNP party has been returned to power with a smaller but still comfortable majority. If part of the fiscal deterioration in the current fiscal year (ending March 31, 2003) was due to the election cycle, this effect has now dissipated. A clear political horizon makes the current government's promises of fiscal prudence more credible, if no less challenging from a technical standpoint Third, willingness to pay is still apparently very strong. This is demonstrated by the Minister's promise to keep the medium-term fiscal goals operational. It is also apparent in the plan to tax the interest income of statutory (public sector-owned) companies. Costa Rica recently unilaterally restructured the domestic debt owed to public sector enterprises, but Jamaica believes that this sort of measure would send the wrong signal, and it has chosen to basically treat public sector entities the same way as private sector ones. I believe that this demonstrates a will to honour contracts, including debt service -a principle that is
very clearly articulated in the Jamaican constitution and supported by the historical experience.
Fourth, domestic conditions seem to be supportive of the continuation of a strong local demand for US-dollar assets. The government's deficit is rising, but the government and the Bank of Jamaica are doing all they can to keep rates from rising. This is putting pressure on the Jamaican dollar and, one would think, making US-dollar assets attractive on a relative basis. This week the government is offering US dollar-indexed bonds in the local market, at a fixed rate of 10.125 per cent taxable for a 2010 maturity. This is roughly 7.6 per woman after tax, which compares unfavourably with existing Government of Jamaica external debt issues.
The Jamaican stock market also looks like it has lost some of its lustre, again possibly reflecting a shift in asset preferences. After rising 34 per cent last year, Jamaica stocks are down by 1.9 per cent year to date.
Monetary policy and the Jamaican dollar Last week, the Bank of Jamaica and the Ministry of Finance instituted a special reserve requirement on banks that appears to have been aimed directly at currency speculators betting against the Jamaican dollar. The Jamaican dollar had been trading at 52.05 J$/US$ before the announcement on Friday, January 10th. It has rallied to 50.50 J$/US$ currently, but the strength in the Jamaican dollar feels temporary. The special deposit is very similar to an increase in the reserve requirement (currently at 9 per cent of bank deposits), except that the banks had only one day to comply, and the deposit is remunerated at a rate of 6 per cent (reserve requirements are non-remunerated). Needless to say, this is a very blunt policy instrument that has been employed.
Although the current strengthening of the Jamaican dollar feels transitory because of the nature of the policy response, we do not expect the Jamaican dollar to collapse. Foreign remittances were estimated by Minister Davies to have risen by 18 per cent last year, supporting the view that remittances tend to display counter-cyclical properties. In addition, Jamaica is currently in a robust foreign-exchange earning period -it's the middle of the tourist season. Finally, the moderate devaluation experienced last year may take some pressure off the trade accounts in 2003.
CONCLUSION
Jamaica still faces a precarious medium-term debt dynamic that will require a continuation of very severe fiscal restraint. However, Minister Davies' speech suggests that the government is not contemplating any form of non-market-based debt reduction. He signalled that the fiscal effort will continue and will be evident in the fiscal 2003-04 budget. I am still of the view that upside in Jamaican bonds will be elusive until the fiscal performance turns around, which is not expected to be evident until at least mid-year, and only then if the government succeeds in designing and implementing a very austere fiscal 2003-04 budget. However, near-term fears have been at least partially allayed.
Courtesy of Bear Stearns.
