Earl Bartley, Contributor
WHAT DOES the international credit rating agencies know that Jamaicans do not know or suspect? Over the past five months several influential credit rating agencies have issued advisories regarding Jamaica's economic prospects and Government of Jamaica (GoJ) creditworthiness.
In December 2002, Standard and Poor's issued a downgrade of GoJ debt following Minister of Finance, Dr. Omar Davies' mea culpa that the public debt was headed in the "wrong direction".
They were followed by Moody's and since then both agencies have lowered their assessment from 'cautious' to 'negative' advising clients against acquiring GoJ debt. Since the presentation of the Budget, other financial institutions like Union Bank of Sweden, CreditSights and Dow Jones have also gone negative on Jamaica, the latter two even suggesting that Jamaica might default on its public debt.
The Government's response to these negative ratings has being exasperation and the suggestion that the thumbs-down agencies are being alarmist. Only Bear Stearns, which often co-ordinates the placement of Jamaica's debt, continues to express cautious optimism. The important issue is how close is Jamaica to defaulting on the public debt?
INTERNATIONAL DEBT
Since default on the international debt has more far-reaching consequences it deserves first consideration. Default risk is directly related to the amount of debt service obligations, when payment is due, and the amount of resources available to service the debt.
Jamaica's international debt currently stands at US$3.4 billion. In 2002 the country spent US$500 million on amortisation and about US$300 million on interest. For fiscal year 2003\04 the amounts due are US$300 million and US$380 million respectively. The Government would probably like to borrow the entire amount of US$680 million needed for amortisation and interest. But it is not considered responsible to borrow (or lend) to repay interest though this is often done indirectly under the guise of 'budgetary support'.
Given the negative rating by the international credit rating agencies the Government will be pretty much closed out from the international capital market until the ratings change; and without an IMF agreement or endorsement it is unlikely to obtain any significant sums from multilateral sources such as the World Bank or the Inter-American Development Bank (IDB).
JUSTIFIABLE FEARS
If push comes to shove and it cannot get a loan to pay the US$300 million in amortisation, the Government could draw-down on the approximately US$1.34 billion in Net International Reserves (NIR), as it did in February to repay a euro-bond loan. So there is no immediate danger of default. But there are justifiable fears that reducing the NIR to less than US$1 billion could cause a panic sell-off of Jamaican bonds, locally and overseas, and bring unbearable pressure on the exchange rate of the Jamaican dollar.
Even if these fears do not materialise and the Government is able to draw down the NIR without too many negative repercussions there is still the matter of the US$380 million of external funding the Government would like to raise for budgetary support.
Borrowing this money overseas is desirable for many reasons. It would reduce the amount the Government needs to borrow locally by about J$20 billion which would help to keep down domestic interest rates. And it would support the Government debt management strategy of substituting cheaper external loans for more expensive domestic borrowing.
But as noted, it will be difficult for the Government to obtain money from overseas sources. This means it will have to resort to the local money market. This is going to keep up pressures on interest rates, already fuelled by the Government's inflationary tax increases; and Bank of Jamaica liquidity management strategies; and from the tightening demand for money due to heavy Government borrowing and taxation.
More insidiously, even as the Government is offering higher and higher rates to attract loans, every one per cent increase in interest rates adds about J$4 billion to the national debt. Thus, through its desperate borrowing to service the debt the Government will be adding to the debt. It is the case of the proverbial 'mouse on the treadmill' running faster to stay in the same place until its heart pops.
DOMESTIC DEBT
What foreign lenders might therefore be seeing is not so much the immediacy of default, (though they might not be as impressed by the US$1.34 billion in reserves as the Government), but a bubble that may burst at any time.
The stock of domestic debt currently stands at J$400 billion. Debt service on this debt for fiscal year 2003/04 is about $150 billion $77 billion amortisation and $73 billion in interest charges. To help to service the debt the Government hopes to borrow J$116 billion and combine it with $54 billion in primary surplus the difference remaining when wages and salaries are subtracted from the $148 billion the Government hopes to collect in revenues.
We have discussed the difficulty the Government is likely to experience with any overseas borrowing for fiscal year 2003/04, and the pressure on domestic interest rates that are likely to result from the Government trying to borrow the great bulk of $116 billion locally. What is more, given the wide discrepancy between actual rates and the 18 to 20 per cent assumed interest rates underlying the Government's debt service calculations, the required borrowing might be closer to $150 billion. This is further reinforced by the high probability that revenues will fall short of projection because of resistance to the tax measures.
In fiscal year 2002/03 the Government borrowed $102 billion from the local domestic market and did not bust the bank. This was mainly due to the moderate interest rates (by Jamaican standards) of 14-17 per cent for much of the year. This year with the higher risk premium attached to GoJ debt I just do not see the Government being able to borrow $150 billion at 40-50 per cent interest rates without bursting, if not the bank, then the economy, and hopefully, the government itself.
Though I will shed no tears for the Government, businesses with variable interest debt are likely to see their debt service balloon as bank rates rise in response to rates in the money market. Investment in the real sectors will also continue to be depressed, inhibiting growth, employment and output. Thus the Governments borrowing is undermining the very things that would reverse the dreadful debt dynamics of Jamaica.
So while there is even less likelihood of the Government defaulting on the domestic debt than on the external debt, because ultimately Government controls the printing presses, there is little doubt that the debt to GDP ratio will get worse. Currently at 150 per cent, by the end of next year with the expected contraction in the economy and the growth of the debt, the debt to GDP ratio will have worsened to 168 per cent.
The major difference between the foreign brokers and our local ones seems to be that while the latter wants to withdraw from Jamaica before the bubble burst, our home-grown interest-rate jockeys think they can ride the bubble and bail out before it burst. Many are manifestly "maxing out and cashing out."
REMEDIES
The Government does not want to subject its borrow, tax and spend policies to any form of restraint, except of its own choosing. But an alternative strategy to move out of the debt trap is possible. Among the remedies, it may be wise to go back to the International Monetary Fund for a two or three year extended fund facility. Though Jamaica seemingly has enough funds in the NIR and is not experiencing the classical shortage of foreign exchange that triggers a request for IMF balance of payment support, the fact is the country cannot manage its domestic debt without external funds which are not now forthcoming from the international capital market because of lack of confidence. The IMF as the lender of last resort should be approached for US$500 million for each of the next three years to prevent cataclysmic upheavals or deeper stagnation in the local economy.
Correspondingly, the Government should develop and implement a plan to cut back Government expenditure by 20 per cent over the next three years. Contrary to the Prime Minister's claim that 75 per cent of public sector workers are employed in the education, health and security ministries, the figures show that there are about 30,000 teachers employed by the Government, about 13,000 police and soldiers, and approximately 10,000 persons in the health sector. Combined, these workers account for 54 per cent of the 102,000 workers employed in the public sector which suggest that there is substantial room for expenditure cuts.
Finally, Mr. Seaga's three money bills to "straightjacket" the Government are worth considering. So should dollarisation, which will likewise straightjacket the Government, since you can only spend what you earn. Maybe if our Government does not control the printing presses, it will be more prudent in its conduct.
Technically, Jamaica is in no immediate danger of defaulting, though it is in ever present danger of exploding from a high interest rate, non-productive economy, created by Government policies that they seem incapable of correcting.
E-mail Earl M. Bartley at adapapa@cwjamaica.com
