A PERILOUS STATE OF AFFAIRS - PART I
The opening of the economy has been positive and necessary as we seek to recover from the burden of two years of extreme pressures from a global pandemic and financial crisis. Since the reopening, The Bahamas has done extremely well with reported revenue outpacing projections, a trend we are hoping will continue and deepen. We must however remain mindful that recovery for emerging economies, especially highly vulnerable small island states, will be fraught with challenges and as such demands targeted strategies to meet the challenges head on. Strategies based on the unadulterated facts, communicated with clinical clarity and precision.
The global recovery is expected to be skewed to large developed economies. The World Bank noted, “As the world enters the third year of the COVID-19 crisis, economic developments have been both encouraging and troubling, clouded by many risks and considerable uncertainty… Spending in developing countries surged to support economic activity during the crisis, but many countries are now facing record levels of external and domestic debt. Adding to these debt-related risks is the potential for higher interest rates: it is difficult to predict how rapidly interest rates will rise as advanced economies slow down their expansion in monetary policies. With fiscal and monetary policy in uncharted territory, the implications for exchange rates, inflation, debt sustainability, and economic growth are unlikely to be favorable for developing countries.” This is an almost precise description of the realities of The Bahamas and most countries in the Caribbean. The headwinds, inflation, exchange rate (not for The Bahamas), lack of economic growth, maintaining debt at reasonable levels, amongst others are clear and will be very challenging. The question therefore is how the country responds in this environment.
“U.S. equity futures fell after a better-than-expected U.S. jobs report increased bets of tighter monetary policy… The unemployment rate ticked up to 4%, and average hourly earnings jumped… Canada’s labor market suffered a larger-than-expected setback last month after the nation was hit with fresh lockdowns meant to contain the omicron variant of Covid-19… Vladimir Putin and Xi Jinping closed ranks against the U.S. and its allies on key security issues as they declared that there’s no limit and “no forbidden zones” in the friendship between Russia and China.” These are instructive news highlights report from a February report by Jeffries LLC., an investment company. They aptly demonstrate the perilous nature of the recovery from the global pandemic. We are not yet out of the woods. As the health pandemic wanes, the financial crisis lingers with pronounced effects and new headwinds with which to contend. The road forward will not be easy, the road ahead is perilous.
The recent release of the Fiscal Strategy Report (FSR) draws attention to this point when it states, “The nation’s fiscal health is in a perilous state.” Applying dictionary definitions to the word perilous the message here is that the state of the country’s fiscal health is "full of danger or risk", “exposed to imminent risk of disaster”. The statement carries so many implications that to ignore it would itself be perilous. An economy described as such clearly needs urgent attention and a clear strategy to fix it. The FSR attempted to do just that when it stated, ”As outlined in the 2021FSR, The Bahamas’ fiscal health will be restored by improving Government efficiency through digitization, continued economic diversification, and improvements in revenue policy & administration to achieve revenues of 25 percent of GDP by fiscal year 2025/26.” What is most interesting about this statement is that the first portion is a continuation of policies espoused by the previous administration with the latter portion highlighting a need for significant increase in revenue. This latter portion generated the expected pushback and concerns. Followed to its conclusion, over the next two to three years; this will see revenue growth to over $1.2 Billion dollars above the best revenue performance in the country’s history and a budget surplus.
Not only is the fiscal health of the country in a perilous states but the global economy is also. This target set by the new administration will therefore be difficult to achieve, there is no question about that. The argument however turns on whether the direction of the policy stated is the right one. Does the country need additional revenue to effectively run government, provide public good and services and tackle its debt burden? On analysis, the answer is an easy yes! “Containing expenditure will be equally important in achieving fiscal targets and Government intends to limit recurrent expenditure to 20 percent of GDP and capital expenditure to 3.5 percent of GDP by the end of the same period. The planned result is the achievement of a modest budget surplus by fiscal year 2024/25”. Mathematically the problems appear to be solved. Revenue at 25%, recurrent expenditure at 20% and capital expenditure 3.5% leaving a surplus of 1.5%. The problems though are very complex, the environment is perilous and there might be more important elements than numbers that needs solving before we can start to remedy the state of affairs of The Bahamas.
We should therefore take cognizance of some important signals. As a norm, the sovereign ought to be the lowest credit risk an institutional lender can take on and most certainly a domestic lender in the domestic currency. Currently in The Bahamas, a private borrower can secure credit at rates far superior to the government, in Bahamian dollars. This is indicative of a prevailing sentiment that is in need of urgent correction. The Jeffries LLC report noted above went on to highlights that of all Caribbean countries covered the Bahamas has the highest yielding bonds at near 11%. Why would this be so? What is it that the international capital market is interpreting and concluding? What needs to be done to correct the sentiment in the market? There appears to be an important information gap at play and to some extent a confusion of message. It would appear there is a need for greater clarity on the policy positions. Such a discussion would allow lenders to rationalize why the government does not represent the risk indicative in the current domestic pricings and international yields. I say this because it is near inexplicable how all, or at least most, other Caribbean sovereign bonds are trading more favourable than The Bahamas. There is an adverse view in the local space and the international capital markets. I believe that this adverse view can only be addressed from the seat of policy, or helped by a sudden significant shift of economic fortunes. The latter is highly unlikely.
The FSR attempted to lay out a path and convey the very message that I am calling for. If one take the time to read through there is no doubt you will find it to be a very fascinating document with a number of very interesting themes. Firstly, the release letter pointed to the "perilous" state of the “health of the country's finances". Secondly, the document captures, more than any other pronouncements to date, some of the very critical issues facing the country. Thirdly, there is evidence of continuation of policies from the previous administration. This is a very interesting and positive observation. Fourthly, the document lays out and incorporated the strategic initiatives promised while carefully highlighting the assumptions and the downsides if these assumptions are not realised. Overall, I think the document is very instructive. There is a sense that the issues are all well known, acknowledged and an attempt is being made to address them. The main point for discussion therefore becomes the latter years’ projections in revenue, as noted before.
Here is my position: I agree that there is a need for increased revenue. The targeted level of expenditure is in keeping with revenue levels and not necessarily informed by actual need. The 3.5% projection for capital expenditure is too limited by revenue levels, will therefore not likely to be higher but might be insufficient to help build out a more robust infrastructural framework needed for to facilitate growth. The big questions are - how will we get there? Is the expenditure high enough given known challenges in the country and most importantly how does the stated policy position of not increasing taxes reconciles with the increase in revenue? I believe that it is this analysis that is demanding clarification. There is a significant tension between the stated desire, the projected numbers and the global environment. Currently it will be difficult for the country to realise growth, which would automatically create buoyance in revenue. If there will be no tax increases and the effort will be largely limited to enforcement, is there confidence that these targets will be met? In addition, if we are unable to move in the direction of the stated targets what effect will this have on government debt stock, its ability to finance the current and projected deficits. Is there a need for greater clarity? The answers all inform policy stance, favourable or otherwise.
The sustainable way forward must be seeded with notable reforms. There are a number of great reforms noted in the FSR, however, when juxtaposed against a position of “no increases in taxes” the achievement thereof becomes unclear. It is my personal view that the direction is the right one. Acknowledging the tensions at play, I believe it is best for the administration to show its cards early. The destination has been laid out in clear relief, now attention should be given to the path to get there and very importantly the nature of the journey. It will be perilous, it will be challenging, it will come with some measure of pain but what is critical to ask and answer is whether it is necessary. If the answer is yes, as I anticipate it will be, then clearing up the messaging is fundamental and urgent, preparing the country for the way ahead crucial, and embarking on that journey early is critical. The cost of doing otherwise will be detrimental to securing sustained resiliency and good fiscal health.
© Hubert Edwards 2021
Hubert Edwards is the Principal of Next Level Solutions Limited (NLS), a management consultancy firm. He can be reached at email@example.com. Hubert specializes in governance, risk and compliance (GRC), Accounting and Finance. NLS provides services in the areas of enterprise risk management, internal audit and policy and procedures development, regulatory consulting, anti-money laundering, accounting and strategic planning. He also chairs the Organization for Responsible Governance’s (ORG) Economic Development Committee. This and other articles are available at www.nlsolutionsbahamas.com.