Keith Collister, Contributor

In last week's Vantage Point, I argued that Jamaica needs to pay close attention to any change in international credit conditions as a repricing of risk in international credit markets is overdue.

I reiterated this point at a speech I gave on Jamaica's economic outlook for Guardian Asset Management on Wednesday, going one step further to argue that the repricing of risk "may already be here."

This repricing of risk stems directly from the slumping housing market in the United States and the fallout from loose lending practices that showered money on people with weak, or sub-prime, credit, leaving many of them struggling to stay in their homes.

If delinquencies and defaults on sub-prime loans surge, Wall Street firms, hedge funds and pension funds could be left holding billions of dollars in bonds and securities backed by loans that are quickly losing their value.

The Bear Stearns rescue appears to have been prompted by the need to avoid driving credit markets lower, leading to a broader repricing of risky debt securities generally.

The manager of the world's largest bond fund PIMCO, investment guru Bill Gross, appears to agree.

Fire sale

He believes Bear bailed themselves out in order to not tip their hand by marking-to-market items that would otherwise have been offered not as high-class assets worth 100 cents on the dollar, but at the deep discounts of a fire sale.

Brad Hintz, an analyst at Sanford C. Bernstein & Company in New York, who was previously chief financial officer of Lehman Brothers Holdings Inc., the largest mortgage underwriter, adds that "more than a Bear Stearns issue, it's an industry issue."

He asks the fundamental question: "How many other hedge funds are holding similar, illiquid, esoteric securities? What are their true prices? What will happen if more blow up?"

Important, in Gross' view, and mine, the willingness to extend credit in areas other than mortgages - high yield, bank loans, and even certain segments of the AAA asset-backed commercial paper market - should "feel the cooling Arctic winds of a liquidity constriction."

Inevitably, as I have already suggested, reassessment of risk premiums, hardening of world interest rates, etc., will likely make it more difficult and more expensive for Jamaica to borrow on international markets.

Junk bonds

Jamaicans would be wise to pay attention. Jamaica whose debt, despite its AAA rating for local regulatory purposes, is politely called non-investment grade internationally - less politely known as junk - has been a beneficiary of this huge world-risk appetite through lower absolute still relatively high, international borrowing costs.

The spread of Jamaican eurobonds over U.S. treasuries has narrowed sharply over the past couple of years, but has recently widened in response to bond-market pressures.

Greg Fisher of Oppenheimer, a leading international broker of Jamaica's debt, says he is seeing selective buying of our bonds by local investors, but the Bear/sub-prime debacle is still causing some fear among international investors.

He believes the Jamaica curve might see a bit more widening of the spreads but the selling in size that we have witnessed for the past few weeks seems to be slowing down.

Rising yields on our international debt has been accompanied by an unwelcome rise in domestic interest rates.

As I also mentioned in my Guardian speech, the central bank's benchmark interest rate, the six-month Treasury bill, increased to an average yield of 12.13 per cent at the last auction, its highest level since December 2006.

This is 17 basis points higher than May's outcome of 11.96 per cent, and the highest rate since the BoJ slashed interest rates by 30 basis points across the board in late December 2006.

Forex pressures

During April, the first month of 2007/08 year, the fiscal deficit was J$1.79 billion or 37 per cent less than budgeted.

This resulted wholly from expenditure savings of $2 billion that made up for the shortage in revenue collections. All items under recurrent expenditure were less than budgeted. Tax revenue grew by 12.1 per cent when compared to the corresponding month of 2006/07, which was less than budgeted.

While April's fiscal numbers are supposed to have improved due to the sharp cut in spending, I will be very surprised if off-budget spending does not increase sharply over the next couple of months, with the clear potential to offset any cut.

In my view, it is no coincidence that this recent period of exchange rate pressure has coincided with a sharp rise in the budget deficit in the second half of the last fiscal year.

Continually missing our fiscal targets could have very serious consequences because, as I have already outlined, we cannot count on the environment for raising international finance remaining favourable forever.

In 2007, the key issue that investors in Jamaican dollar assets face is whether the government will be able to reduce interest rates by much, or indeed, any further.

keithcollister@gleanerjm.com