By Dennise Williams, Staff ReporterTHE RAMIFICATIONS of globalisation can be seen clearly as it effects the Jamaican interest rate scene.
Specifically, the cost of petroleum and the expected hike in interest rates by the United States central bank (the Fed) has serious implications for the desire of the local monetary authorities to keep local interest rates trending downward. In fact, local investors are in a wait and see mode.
Director-general of the Planning Institute of Jamaica (PIOJ), Dr. Wesley Hughes, on May 17 expressed the following sentiment: "While in the short-term we project lower interest rates, this outlook is tempered by the global market. The Feds are likely to push up interest rates. This will have a negative effect on how far we can lower interest rates. This is the effect of globalisation. If United States interest rates go up this will affect our global bonds."
Orville Johnson, chairman of Today's Money explained further. "Essentially, the rates overseas set the floor of our interest rate structure. Investors believe that U.S. investments have no default risk and no currency risk (the risk of devaluation). This belief limits how low Jamaican interest rates can go. There is a view that if U.S. interest rates are high enough then there will be a 'flight to quality' from Jamaican investments."
FIXED RATE BOND
However, this does not mean that Mr. Johnson sees interest rates heading up. "I believe that local interest rates will settle for the time being or even go down marginally, investors are biding their time. The latest 39-month variable rate Government bond that offered 15.05 per cent had a low take up at $1.6 billion. The 17 per cent fixed rate bond that was offered a few weeks ago took up over $13 billion. That shows you that people don't want to tie up their money for so long (39 months). They are waiting to see what is going to happen internationally."
And it is not just local investors that are affected by the actions of the U.S. central bank. Explains Mr. Johnson, "When U.S. rates go up, it affects the Government's ability to borrow internationally. Because Jamaica's debt is considered emerging market class, the Government may have to offer higher interest rates to attract investors."
Currently, bond rates are in the 10 per cent region. He continues, "The Government might say, instead of paying 13 per cent on new debt to international investors on U.S. dollar debt, it is better to pay 17 per cent to local investors in Jamaican dollars."
Charles Ross, managing director of Sterling Asset Management, agrees to a point. He believes that Jamaican interest rates are high enough as things stand, and what will most likely increase is the debt burden. "The increase in U.S. interest rates will determine the level of success the Government has in issuing new bonds. This means that the Government will have to borrow at higher interest rates. Ultimately, this will create a greater strain on the budget, more taxes or less spending on social services." Mr. Ross, however, does not believe that local interest rates will go up.
SMALL INCREMENTS
"The gap between U.S. interest rates and Jamaican rates is huge, so there is no correlation. When the Feds raise rates, they will not do so more than a quarter to half point at the most. Even if the Feds raise rates three times this year, it will be in small increments and I don't think that it will go higher than two per cent."
Mr. Ross scoffed, "Will people leave 16 per cent for that?"
In terms of petroleum prices, Dr. Hughes stated that, "In the next few months, the situation with petroleum prices is uncertain. If prices continue to go up, it will have a negative impact on the Jamaican economy."
Mr. Johnson adds, "The next two months will be critical. In relation to interest rates, higher oil prices will drive inflation up. And when people invest their money, they don't want to lose the value of it. This influences the rate of interest investors will accept."
States Mr. Ross, "Higher oil prices put pressure on our trade deficit and create greater demand for foreign exchange. If the exchange rates is pressured, given the Bank of Jamaica's (BoJ) standard response, then one would expect the BoJ to jack up rates."
However, Mr. Ross sees this as a remote possibility. "In the short to medium term, the BoJ seems to have lots of reserves to meet the demand for hard currency. So interest rates are not going up, but they may not fall a great deal further."
