INTRODUCTION
For a number of years I have had the privilege of commenting publicly (radio, television and in print) on the national budget, the financial services industry and matters relating to the wider economy. Over that time, due to whatever the prevailing circumstances, there was always some tension in opining. Over this time though, I have always held to a set of important principles, be honest, be fair, be balanced, do not be afraid of others disagreeing with you and focus on what is in the best interest of country.
I remember sitting on panels with brilliant local minds and concluding that the then budget was “transitional”, “we are at a crossroad”, “has some good things but doesn’t go far enough”, or “lacking in growth strategy”. Often the final outturn of these budgets makes each of these conclusions a falsity or an understatement. The tension I feel this year comes from trying to reconcile my instinctive conclusion, that this budget comes at a point in time which represents a “tipping point” for the country and what was presented. Because that is the case, the main challenge is being fair, objective and balanced, trying to ensure that the positives in the budget are not consumed by any perceived inadequacies in responding to the broader implications of the current environment.
Why settle on the idea of a tipping point? The term is defined as a point at which a series of small changes or incidents becomes significant enough to cause a larger, more important change. Over a number of years, the county’s economic system has shown some important challenges which tend to become more prominent during periods of economic downturn or disasters. From endemic but seemingly increasing vulnerability to weather events, chronic anemic growth, to structural deficits and weaknesses, low productivity, to now high debt concentration of debt; there are enough elements moving in generally negative direction with the collective power to change the economic wellbeing of the country and its citizenry, in very fundamental ways, a tipping point. The decisions made or not taken at this point could have serious repercussions in the future. You may quickly retort that it is normal. That is generally the outcome of decisions (made actively or by default). However, let us avail ourselves of a slightly different perspective.
Malcolm Gladwell in his book, The Tipping Point, defines the term as "the moment of critical mass, the threshold, the boiling point”. Gladwell’s definition has a level of authoritative simplicity and seduction that is very hard to ignore. Critical mass, boiling point, threshold. Within the context of the economy, anyone who is paying attention can readily identify any number of economic and fiscal factors that have crystallized, or are quickly crystallizing, into an indisputable state of “critical mass”. The current and projected debt stock of over $10B springs readily to mind. The casual observer can identify a number of matters that can easily be concluded, without much argument, to be at their “threshold”, as examples, spending on social services, expenditure, underlying infrastructure such as hospitals, the size of the public service and its attendant financial obligation. Finally, it does not require an overactive mind to contemplate that there are matters that have or are speedily approaching a “boiling point”. For example, interest on debt, the adequacy of the existing tax regime, perception of differential treatment between local and foreign investors.
In analyzing the budget, how does one remain fair to the current administration, support, highlight the positives of the budget, and comment objectively on those areas that in your opinion are challenging? I believe that you do so by having an unbending desire for the country to win, divorcing yourself, as best as possible, from all derivative outlooks and agendas and focusing on what is in the best interest of the country and its people. In other words, work to be unconstrained by the idea of winning arguments, knowing very well that when we argue only to win, rather than to build consensus and capacity for improving; generally speaking, everyone loses! It is my firm position that The Bahamas is at a critical tipping point and the first order of business must be a fundamental shift in the narrative. While the budget is generally set within the confines of one year, it does convey and highlight policies and programs to be implemented with multiyear impact. The idea of the existence of a tipping point actively pulls an analyst into asking, will this inure for the longer term? Does this solve, going forward, the challenge observed here? Is this suggesting a change in trajectory of matters deemed negative? It is for this reason that a careful assessment of this budget will derive many points of tension. It may also explain the nature of commentary heard since the delivery of the communique.
In strict terms, a tipping point is not necessarily negative. Consider what seems to be an increase in entrepreneurship at the MSMEs. Think about what opportunities lie in finally getting a handle on the ease of doing business. Contemplate how the current environment sets up a national call for significant shifts in behaviour and a march to productivity and meritocracy. Appreciate for a moment the valuable insights that this particular moment is shedding, essentially laying bare the soft underbelly of the economic structure making it ripe for unobstructed study. This article attempts to widen this discussion, highlighting the positives and in a balanced manner draw attention to opportunities and potential headwinds.
THE NEW BUDGET CYCLE
In my previous article, written before the reading of the budget communique, I outlined areas which I thought would be given due consideration. On review, most of the points highlighted were addressed in some manner. As stated then there are concerns as we move into the budget exercise. These concerns are generated out of the fact that we are in the midst of a pandemic, significant economic loss - the country losing approximately 20% of its GDP, high levels of unemployment, historical and increasing levels of debt. Further matters include uncertainty around the normalizing of economic recovery, though positively impacted by vaccination campaigns underway both in the country and in our markets of interest. The concerns extend to potential headwinds for the financial services industry against the backdrop of an embattled tourism sector.
In that article I noted that one overarching and important problem which the budget had to solve is what I termed the “Debt Trap”, a matter that can only be fixed, without significantly hurting the economy and country, by experiencing sustained economic growth. The reality is that the debt can be reduced. However, without increased revenue this would necessitate a treatment of austerity measures that could be very painful for the country, its citizens and residents. In my projections, I stated that the budget address the following:
● Increased taxes.
● A clear program of debt management with attendant impact on areas such as capital spending;
● Increased support for the social sector to address increased unemployment and displacement of workers.
● Continued support for the private sector especially MSMEs through the auspices of the SBDC.
● Support for SOEs, likely not at the level of need, but given their current challenges such funding must be contemplated;
● Continued curtailment of capital spending when considered against longer-term historical levels with the possibility of an uptick to facilitate new capital projects either already announced, foreshadowed or “brand new”;
● Increased debt and interest payments, being a natural outturn from the current position and future borrowing needs;
● Some pronouncement around BPL; and
● Programs designed to boost employment either directly or through the private sector.
On analysis, with the exception of BPL, each of these areas were addressed. The big question is whether the treatments announced adequately align the realities on the ground and create a real foundation for future sustainable recovery and resilience. Has the budget signaled and positioned The Bahamas for economic growth and development, the creation of an optimized facilitative environment, ability for wealth creation for the regular citizen and generational transformational across the country’s social, public and private sectors?
THE “MATHEMATICS” OF THE BUDGET
Government revenue comes from a few main sources, taxes or selling assets with shortfall against expenditure funded by borrowing. When we understand this it becomes easier to better appreciate the “mathematical machinations” that may go into the budget. For the mathematically inclined, the statement “A is a function of B” is readily understood. Whatever B can become is dependent on what A is. Revenue is a function of taxes and sale of assets. Revenue, all things being equal, will improve with economic growth. Where there is limited revenue you either raise taxes, cut expenses or increase borrowings. If you are unable to reduce expenditure, debt will climb. Note that in each instance at least one factor has to be capable of change. I believe that a significant part of the country’s problem is the unwillingness to accept there are some things that must change. This unwillingness I think is born out of the understanding that the changes will be disruptive. I posit though that the country will consistently lag its optimal potential until the changes are acknowledged and sound remedial treatments applied. We cannot hold taxes low, expenditure high, growth low, capital spend low, maintain a peg and not expect that the balancing factor, debt will continue to increase. You can analyze, rationalize or provide alternatives, but unless one makes an argument that there is wholesale wastage of government revenue and can prove that and then fix it, tinkering will never solve the current problems and we should never assume that the fixes are easy.
Let us assume for a minute that you are the Prime Minister and Minister of Finance, meeting with the Financial Secretary. You are having a meeting to strategize for the budget following two years of record deficits. What is the likely nature of the conversation? What are the things you would be insisting on having and not having in the budget this year? What trade offs would you be open to making? You unfurl your strategy map, or more likely, the Financial Secretary, and state here are the factors at play: revenue, growth, expenditure, deficit, debt, reserves, the pegged exchange rate and taxes. Consider therefore in the face of high unemployment, disrupted economy, high debt, low revenue what will your trade offs be. Should there be an increase in taxes? How would this affect potential recovery and affect an already stretched private sector and the general populace, at least at this time, in the midst of a global financial crisis? Would you ignore the state of your medical infrastructure which Covid-19 has shown to be significantly weak, a reality exacerbated by the archipelagic nature of the country? Would you ignore the private sector, especially the lower echelons thereof, which stands as an option for absorbing some unemployment? Are you minded to not inject foreign currency into the economy to preserve the external reserves and continue protecting the pegged exchange rate? What about social sector support? Would you not secure allocations for the public sector emoluments and pensions and give support to SOEs?
I outline this to indicate that the choices in the face of limited resources are not easy. I certainly would not argue that this budget as presented is optimal but the reality is there are some realities that we must face and accept. In that regard, I believe that generally, many of the areas covered by the budget were necessary, makes sense and reflective of challenges currently being experienced. Therefore, allocation for hospitals, for small businesses, job creation, etc. are reasonable. I am though open to argue the quantum of allocations and how they will be implemented. Some will clearly present greater challenges than others will. For example creating jobs by means of tax credits. For this, apart from the “devil being in the details”, its potential is significantly wrapped up in the demand for labour. I hope that there will be positive near term developments that will buoy this effort. It is extremely important that people get back to work and that the government is able to shift its social assistance in ways that are likely to be more productive for the economy. A government unemployment benefit is clearly inferior to forgone revenue that pays for employment.
The level of capital expenditure is a good indicator of the level of economic activity likely to be generated in the country. More importantly, capital expenditure is a signaling of investment in the future of the country creating improvements for facilitating economic growth. This spending is facilitating and supplemental to private sector projects and often on infrastructural provision which are normally left for governments to provide, roads, airports, hospitals, ports etc. In recent years, despite reduced inflows of FDI and constrained local investments, this number as a percentage of GDP fluctuates within a narrow band of 2% - 4%. This continues to be rather low in my view and hence the reason why the employment of public private partnerships (PPP) stated in the communication is so important. PPP forms one of the pillars of this new budget and should be followed through with great urgency and diligence. The experience of recent years has seen this concept not really moving with any significant cadence. With the debt stock where it is currently, with government constrained to inject greater spending, with constraints on revenue and ability (or desire) to raise taxes, this avenue offers valuable options and dovetails into the stated outlook for greater engagement of local investors in the economy (see Concessions and InvestBahamas below). As part of innovative and creative strategies, going forward PPP will have to become a more tangible factor in the provision of public goods. While this may very well mean that the cost enjoyed by the public currently will change, it is a viable alternative to direct tax increase and borrowing and a means of facilitating domestic wealth creation and must therefore be better leveraged.
I must readily admit that of the seven pillars, the discussion around tourism strikes me as needing a deeper level of consideration most. For the most part the points stated around securing diversification through homeporting, smaller ships doing inter island tours needs to be better unpacked. Here are a few points; the diversification is directed towards one of the lower ends of the tourism sector, cruise ship business. While any incremental revenue will always be a positive and low hanging fruits are never to be ignored, in the context of planning for tangible future wins questions must be asked of the higher earning spectrum of the sector. Big wins demand big moves. The issue of homeporting, in my humble opinion, may not still have the legs anticipated when the idea first emerged. I truly believe that given the logistics, issues of convenience for their market, cruise companies are more likely to homeport in Florida. The decisions of the CDC up to this point I think has been the driver of this move. There has been recent indication that this is changing. While I hope that I am wrong, given what I am aware of (public information) I would not be hanging my strategic hat on securing any major gains from this aspect of the industry. That said I strongly agree with the sentiments of leveraging the sector to derive greater gains through small businesses. This is clearly the way to go in order to domesticate more of the value chain in tourism. However, while small business does cover agricultural concerns there was no great focus in the communication. I believe that some reasonable attention should have been given to this. Appreciating the pronouncements in the previous budget, the then focus on agriculture and the prime minister’s assertion that both budgets are intrinsically connected, more needed to have been said. Agriculture and marine represents one of the best sources of diversification for the country, it represents one of the best areas to leverage linkages with tourism and should always maintain national prominence given its influence on food security. Against this backdrop, it demanded close attention in the presentation.
MINIMUM CORPORATION TAX
For those following closely the absence of any discussion on the matter of minimum corporation tax must have been readily notable. It was somewhat of a surprise that it was not covered by the communique. This issue has potential competitive implications for the country. The important of this is underlined by the subsequent statement issues by the MOF on the announcement of an agreement amongst G7 countries, in support of Biden's for minimum corporation tax of 15%. The release sought to comprehensively address all areas of concerns and demonstrates it importance or at least the importance accorded to it by the financial services industry and other players. I wrote the first version of this article before the announcement. This section had a much different take on the matter. It had call for a close look and public pronouncement on the matter. With the release from the MOF, effectively that which should have been capture in the communique, but with the uncertainty of an agreement highlighted, has been largely said, in my opinion. What is left to see is how that narrative actually plays out as the matter unfolds.
I agree with the current general consensus that The Bahamas doesn’t have much to worry about here. From my perspective the greatest concern therefore is potential disruption in the offshore arena. Based on our understanding of the nature of the offshore market, it would be wise not to assume there no connections between our dominant service niche and other niches. It is often said that big money runs in small circles. It is my view that between the EU and the USA, I believe that we have a spot of bother going forward. The squeeze will be consistent as organizations, countries or blocs seek to justify their moves by post COVID-19 economic recovery needs.
We must note the "social conscience" approach that has emerged in these discussions. Statements such as tax losses for “small countries” represent 50% of their health budget. Or with the taxes lost country Z could pull a third of it child population out of poverty; or $Y of taxes lost could pay 34 million nurses, etc. This shift is important and it is winning traction. This predominantly EU approach, coupled with the US anti-one percent sentiments has been brewing for a while and creates a bit of an adverse storm against offshore jurisdictions. I do not believe that this issue will go away. In fact, the approaches will, in my view, keep getting narrower, more clinical and more efficient, as the evolution of the OECD, EU and US efforts has shown over the years, with the greatest progress achieved when there is meeting of the minds and alignment of initiatives.
It is fair to say that today we are at the point of greatest agreement, across supra-national organizations and sovereigns, than ever before. The EU and the USA are firmly on the exact same page, right now. We should therefore continue to pay careful attention to this matter as it evolves with a view of protecting our financial services sector.
CYCLICAL OR STRUCTURAL WEAKNESSES
I could take many approaches in discussing the current budget. However, there is the deep urge to take the assessment outside the confines of the existing year. Why is this important? In this budget cycle there has been an unusual but understandable focus, public discussions, on structural deficits. The distillation of the matter holds, in my opinion, important clues to the efficacy of the budget and any underlying policy espoused in its presentation. I believe that there are some very critical issues relating to the health of the country’s economics for which clearer insight lies buried in a historical assessment.
The current budget projects a deficit of $951M. This follows a projection of $1.3B for the fiscal year 2010/21. We are yet to see where this figure will settle but to date all released information has it firmly within that range. However, I would not be surprised though if this number was to terminate higher, say in the region of $1.5B or more. The Bahamas has been perennially running deficits. The current levels are unusual and are a function of the significant shock to the tourism sector created by COVID-19. The demand side shock experienced in this sector, the single most dominant economic contributor to GDP, is a major cause of the higher than usual deficits. As a bi-product of fighting the health crisis, a disruptive suite of treatments, which include lockdowns, curfews, and restrictions, has hurt the economy. This too is a major contributor to the levels of deficit as it created a supply side shock across the local economic landscape.
The reality is though, if one cares to look back, the country’s deficit levels have held relatively firm for a number of years. Going back to fiscal 2013/14, we observe a deficit of $333M. This has fluctuated through a range of a low of $215M (2018/19) to a high of $833M (2019/20). The average deficit over that seven years period is $473M. Over the same period, except for one year, the national debt was always increasing. If one argues that cyclical deficits are a function of major shifts (shocks or booms/ negative or positive) in the economy and that a structural deficit is a function of "normal growth", then the deficits over fiscal 20/2021 and projected 2021/22 must be a combination of both. Over the last decade, the country's economy grew by less than 1% annually, on average. Taking into account recent adjustments due to the Covid-19 crisis the economy has actually declined or experienced overall negative growth. I submit that the recent movement, which tipped it over, is fully cyclical but there is a significant amount of information to be gleaned as to the health of the economy once we adjust for that “abnormality”. For a number of years now, one leading financial expert has argued and continues to argue that the growth needed to address the country’s economic growth challenges is between 5 to 6% over at least a sustained three-year period. The likelihood of this happening on the current path is extremely low. On average, the possibility of a country in the region seeing that type of growth is also extremely low. On assessment if there is any country in the region, which can achieve this, it is most certainly The Bahamas.
The jump in the last two years is expected to normalize with increased inflows especially from tourism. Whether we get to a balanced budget and eliminate the deficit will be a function of growth and decisions on recurrent and capital expenditures. The growth in national debt over the years suggests there is a perennial structural deficit at play. If asked to settle the argument I would argue that a portion of the current deficit is structural. Contrasting fiscal 2021 vs. 2022 numbers, there is an amount of $400M that appears transitional. This compares relatively well with the average deficit of $473M mentioned earlier. Some may argue that a difference of $73M is a significant amount of noise in an analysis and I would readily agree. However, note that we do not yet know what that final position will be for a couple of reasons. The deficit for 2021 is not yet confirmed, we still have one month left in the fiscal year. It could be beyond $1.3B, which would give some insight into the efficacy of the $951M projected deficit. This projected deficit is important in any assessment. It is dependent on the quality of revenue that the country will enjoy going forward. Therefore, if revenue going forward were impacted such that we never get back to pre-Covid levels then the current amount cited as being transitional would harden.
Simply put, the extent to which performance expectations are built into the budget remains uncertain, though improving. Any performance persisting across three fiscal years has to be looked at differently. The deficits, actual and projected, for the last three fiscal years all sit as the top three largest deficits. Additionally, the quality of the new revenue measures holds important implications. In simple language, will the government be able to recover on new and increased sources of revenue at the levels projected? Beyond the period under consideration, the Bahamas historically runs an expenditure budget of approximately $3B and revenue is always short. An assessment of the increase in national debt over the years confirms this. Given there has been limited instances of balanced or near balanced budgets (or surpluses), the growth debt signals a strong structural deficiency in the budget regardless of how it was caused, wastage, corruption, mistakes, economic shocks, etc.
Consider this, if normal expected growth is not likely to solve the matter then we are clearly dealing with a structural challenge. The take away from this must be that regardless of whatever optimism exists for the return of tourism and a normalization of national and international commerce, there is a fundamental lack of growth, which must be fixed, in order for the underlying economic indicators to be remediated. Only with pronounced growth well above the historically anemic levels will the country's economic fortunes leap forward. Against that backdrop, I will leave the reader to contemplate whether the current budget as structured has the ability to achieve it. If the arguments made to this point holds, then there is certainly no possibility of a twelve-month budget finding the solutions. The issues are larger, deeper and significantly more nuanced than a one-year budget can solve. It does however have the ability to initiate action, uncover policy and programs that will start the processes needed or at least point in the direction of the solutions needed.
CONCESSIONS AND INVESTBAHAMAS
Two of the big outputs from the current budget are the attention given to making concessions more accessible to domestic investors and the proposed creation of InvestBahamas. The budget communique highlighted the fact that domestic investors will now enjoy a range of concessions to either start or expand their small businesses, being businesses with revenue up to $5M. To draw on a popular cliché, the devil is in the details, it truly is. However, if the details are structured and implemented such that this can play out positively then there is a great possibility of, over the longer term, seeing economic uplift from the policy measure. Beyond that, there is an important psychology at play here. Generally, Bahamians embrace the perception that foreign investors are better treated and have more available to them. This is therefore a move in the right direction towards solving that negative perception. A move in the right direction because of course it will not be complete until there is demonstrative evidence that, proportionately, the domestic investors will actually glean the same level of treatment as others. Therefore the use of the government concessions/incentives machinery ought not to be limited to purchase inputs for startups and expanding business but must naturally extend to, again on the basis or proportionality and based on strategic targeting, other form of taxes afforded to FDI, access to crown land and facilitation by relevant government agencies. As an example, a startup or expanding Air-BnB, or group thereof, should be able to secure advertising support in some differentiated manner, but consistent as a matter of principle, to that which big corporations enjoy. Within the context of this budget cycle being at a “tipping point”, I believe this addresses one issue which has the potential to boil over with social and economic implications. There is a clear seething undercurrent on this matter and while the devil is amongst the details, this move is a very positive one.
The focus on InvestBahamas is crucial. The country has always been attractive to FDI. Over the last few decades, it has secured significant investments primarily of a touristic nature. While these have been very important in the life of the country and its economic well being, there is the lingering question, sometimes very active arguments, as to whether and how the country benefits from these investments. Argued differently, whether there is more which the country ought to enjoy because of these types of investments. There is also the very important concern regarding the ROI the country enjoys on the concessions it affords these FDI. Addressing these matters together with being more targeted and strategic, faster and more efficient, balanced in focus and treatment between domestic and foreign investors is fundamental to the way forward. As we discussed before, I believe that The Bahamas has a set of hardcore structural issues that are impinging on the ease of doing business. An effective investment development/promotion agency must expend a significant amount of effort dealing with the facilitative environment. This initiative is therefore not one to be dismissed as its presence should strike at the very heart of the matters that currently have an adverse impact on growth. Here, the country is nurturing a circular idea of significant proportion. To secure growth the country needs investment. Some of the said investments must naturally emerge from outside the borders of the country (FDI).
To ensure sustainability and wealth creation investments must impact the country in a deeper manner beyond the realm of creating jobs, but be reminded that jobs are needed in the face of elevated unemployment. To secure this sustainability it means that more domestic players must be involved, more centrally in the big economic plays of the country. To get more locals involved in their own right many will need to be empowered through national resources. The concession machinery of the country presents a potent and game changing mechanism to achieve this in my opinion. As an example, let us take what I considered an underexploited piece of legislation, the Corporate Enterprises Act. Let us assume that a foreign investor can access all the benefits as stated therein and come away with a value of $1M. But let us further assume that there are some changes made such that the value said investor can achieve decreases dramatically and that which the local can get increases significantly such that now there is a collective value of say $3M, which is not achievable without the local. Immediately the local investors walk to the table as an equal and have the ability to participate in and help to domicile more of the successful results of the business. This shifts wealth creation, balances the scales and sets up a dynamic for more robust locally driven growth. The example may not make perfect sense as stated but its underlying intention is worth exploring. Given that it is expected that InvestBahamas must look at matters such as legislation that create the facilitative environment, I submit that with some measure of creatively directed policy positions the country stands a great chance of moving the needle in favour of greater growth.
In a more general way, the inflow of FDI will definitely help in clawing us towards that 5-6% growth in GDP needed to set the economy ablaze. A new agency will definitely be focused on the strategic targeting of industries with a view of determining the effort needed to grow additional sources of export revenue. One of the areas of concerns for me in this year’s budget is the level of projected revenue. The projection is just less than $200M shy of the 2018/19 actuals of $2,426M (2021/22 – $2,244M). I reference this year for two reasons. Firstly, it is the year with the highest level of actual revenue and secondly it is the last normal year in recent times for the country. Subsequent years were impacted by Dorien and then by COVID-19. The economy lost approximately $1B as a result of the hurricane and subsequently, as was recently reported, 20% of GDP, due to Covid. It will be interesting to see how closely the numbers will settle compared to the budget at the end of the period.
The proximity of the numbers suggest a level of optimism that may not exist. It reflects a hard return to normalcy. Even allowing for the adjustments expected from tourism, this might be leaning a bit too much to the optimistic side. For balance though, I must remind that there are “new” revenue sources in the budget. It is this lingering uncertainty why I believe that the ability to cause a shift in the overall effort towards securing new investments is such an important game changer. Normal does not necessarily mean “as things were ''. The messaging from this initiative should not be underestimated. It signals the country’s commitment to improve the ease of investing for local and foreign investors and as a natural bi-product should positively influence and change those things which adversely impact the ease of doing business. With the country seeing FDI as a percentage of GDP noticeably waning in recent years, this move, effectively implemented, should put a finger on the scales in its favour.
TAX EQUITY
The matter of taxation has been mentioned multiple times before now. Here however I wish to focus on the idea of tax equity raise in the budget communique, each person paying their fair share. In the budget, there has been some tax increases with high-end properties attracting an additional 2% of VAT and one new area of commerce added to the tax roll, Airbnb. Generally, I have no issues with either of these and trust that they will both secure positive yields. I mentioned before that the strength of the projected revenue is dependent on realizing the projected inflows from these measures. These seem to indicate that unlike general perception there may be viable additional sources with which the government can increase its revenue space which currently lags behind regional counterparts as a percentage of GDP. The principle of adding an additional 2% on realty properties of $2M and above would generally appear to be a fair move. However, is it?
It is interesting that the desire for a progressive outcome is deeply rooted in the use of regressive taxes. The country will have to grapple with, in due course. Will the regressive system of taxation continue to serve the country? As currently structured it is near its maximum potency, having regard for levels of debt, increased interest costs and record-breaking deficits. There is a rule of thumb in taxation that holds that the higher you increase a particular tax measure the more likely you are to see declining returns. Is VAT, a regressive tax, the largest single contributor to national revenue, at or near its maximum? For a few years now, there has been discussion around whether the country should consider some form of income taxation. This progressive method of taxing seemingly does provide better quality answers to the issue of those making more paying more. It is and will remain a very sticky matter, which strikes at the core of the country’s offshore financial sector. If you had only listened to the prime minister’s build up to the announcement of the new tax measures and walked away thinking that there was a new type of tax afoot, U think it would be totally forgivable. Even while many continue to probe and ask the question, it is clear, the country is not there yet. Maybe, just maybe way the buildup was styled is an admission in principle that the current tax regime does not always align with two basic conditions a good tax system should meet, adequacy and fairness. The possibilities are worth at least a fleeting thought.
THE DEBT TRAP
One of the greatest refrains after the delivery on the budget communique by the Prime Minister is that there was no strategy for addressing the national debt. This is in fact not accurate. There was a strategy outlined. Essentially this called for Sinking Fund arrangements to pay off $775; containing interest costs through International Financial Institutions; leveraging fixed rate debt in a low interest rate environment; fixing appropriate mix between domestic and foreign currency debt. This outline is expected to feel the rigor of transparency exerted from the Public Debt Management Act 2021, which comes into force July 1, 2021, and demands in part publishing the strategy for all to see.
The question here is the adequacy of the strategy and the extent to which it will hold in reality. The sinking fund will take some time to build up and is at the vagaries of revenue inflows. We see this by the lack of contribution to the fund in the current fiscal due to the significant downturn experienced. The other aspect to consider is the extent to which loans from international financial institutions will be sufficient. Definitely they can be accessed at rates which will be superior to what can be had on the open market, but the quantum of debt needed to fund the deficit will still see a significant portion of it being higher cost debt. The projected increase in interest cost, of over $100M, to $512M is indicative of the impact of the debt burden. Interest cost now represents 23% of revenue and 18% of total expenditure, up from 18% and 15.5% respectively. This is significant and with uncertainty around economic performance could become more so. It is critical that the country works very hard to find the solutions necessary to maintain a positive and improving path as any negative developments such as significantly missing targets or action from rating agencies could have a major impact on the cost of funding.
The debt stock is one of the most critical issues to be faced during this and subsequent budget cycles. In the context of Gladwell’s tipping point definition, debt in the Bahamas has reached a “critical mass” such that it must be addressed quickly, seriously and with concentrated attention. The total debt burden is expected to grow to $10B. Of every dollar earned, based on the projections, twenty-three cents will go towards paying interest on debt. Debt to GDP is tending toward 100%. All this is against the glaring reality that the government’s accounts are done on a cash basis, expected to change soon with public finance reforms, and the assessments hardly ever take into account commitments and contingencies, and the potential impact that weak SOE debt will have on the overall state of affairs. This situation has the ability to significantly erode the productive capacity of the county’s finances.
Government programs, with significant levels of borrowing and debt, have to be looked at not as the nominal value but the overall cost which will accrue on debt, over a long period, typically ten to twenty years. The provision of $50M to the SBDC, for example, is well beyond that as long as there is a significant deficit and a large stock of debt to be repaid. To contextualize the challenges faced, consider the fact that the deficit over the last seven years has been typically higher than the cost of interest. What this means is that the country is actually borrowing to pay its interest obligations. A cycle will consistently tighten like a noose around the economic neck of the country. Escaping this trap by marking some hard decisions and taking definitive actions is critical. There is no need to reinvent the wheel. Case studies abound in the region and The Bahamas should look to those who have suffered this path before for insight.
We have seen this before in other places and have seen the impact of remedial action. Barbados and Jamaica provide potent lessons as to what is at risk and the potential upside of definitive actions and strategies. Jamaica struggled with the burden of debt to GDP of over 140%. Over the stretch of two IMF programs debt was reduced to below 100% for the first time in many years. The programs have been hailed as successes seeing Jamaica unlocking important resources, plunging it back into its economy, especially in the area of infrastructural development. This success though comes at a significant cost. Consider the fact that the results were secured without any notable economic growth, effectively winning on the backs of deep sacrifice by the citizenry. However, also consider the reforms that were secured which arguably buffered Jamaica from deeper disaster from the impact of COVID-19. Consider further, that while still with significant struggles, a more robustly facilitative fiscal and monetary space. This describes both the risk and the potential for The Bahamas. Continuing on this trajectory the country is heading into the tight binds of a debt trap, a trap where there is a vicious cycle of borrowing and paying more, where the power of spend is significantly blunted by interest payment obligations, where the country could become starve of infrastructure due to affordability. This has the potential to adversely impact the citizenry, as there will be a need to increase taxes, introduce new taxes, and implement austere budgets or risk entering some form of structured program with external organizations. The government to avoid this should expend every effort possible.
What is clearly at play here is akin to a scenario where having given a very hungry person food, he looks you dead in the eye and asks, where is the food? It is not that he is unable to see or appreciate what was given, but because the amount of food simply does not align with the extent of his hunger. The reality is that the challenges faced around national debt are not solvable within the confines of looking only at the debt. A broader, more aggressive set of treatment is needed, across the board. There is some inevitable pain which has been sanitized from this cycle, understandably so with an approaching election. However, at some point in the near future this will have to be tackled, regardless of the administration in power.
As an unconnected observer, just thinking about this creates great trepidation for me. I therefore empathize with the persons who will actually have to effect the solutions and should undoubtedly have greater information therefore clarity about the realities. This is by no means a walk in the park matter. The formula is not very hard to understand but is by no means easy to solve. I strongly believe that this has been widely recognized and appreciated and therefore one the main reasons the recent communique may have attracted criticism of not fully reflecting the realities on the ground. The factors at play are growth, revenue, expenditure, debt, reserves, and the pegged exchange rate and taxes. The solution lies, ideally, in securing positive changes in many of these areas simultaneously, but are more likely secure through a series of very hard tradeoffs. There needs to be significantly more robust growth than we have seen historically. How easy is that in this environment?
This growth must translate to high quality revenue improvement for the government. If there is low growth and the quality of revenue is not improving, the government must increase taxes. If revenue growth cannot be secured, expenditure must be curtailed. The pegged exchange rate is consistently facilitated by reserves. If inflows are not robust, foreign exchange loans must be secured to keep the Bahamian dollar parity with the US dollar. Yes, we are clearly at a tipping point and debt is one of the factors that will exert the most pressure going forward. However, debt is largely a function of all the other factors. When we look at the other factors in this “formula”, it becomes very clear that if as a country we fail to secure broad based solutions the outturns will be hard to bear and the impact could be long lasting with the potential to create radical shifts in standard of living.
CALL TO ACTION
I would dare not be so presumptuous as to think that I have the capacity to provide advice that would be followed in any unadjusted form. These are therefore starting points for a thinking process. What follows is a broad mental roadmap I would lay out if I had the chance to engage with brighter minds in a bid to create a strategic outlook for the way forward.
● The most important issue to be addressed is the contemplation of a path to growth and an always-evolving destination for that growth. There needs to be an unequivocal growth strategy promulgated. In the process of considering this there must necessarily be some dreaming, aspirational reaching beyond the points where all realities suggest is impossible now. We must then shift to start asking ourselves how we can get there, how can we achieve this desire and be committed to confronting the obstacles that lays between where we are now and where we are desirous of being;
● The budget has provided for us a real glimpse into the challenges of the future. No matter who leads the country after May 2022 the tasks will be difficult. Conventional wisdom suggests that as much as we think we now know it could be more significant. This demands therefore a non-partisan coalescing around a national plan. There exists a multiplicity of information, studies, and recommendations, the most recent of which is the work of the ERC. The influence of the “tipping point” outlook directs our mind to the fact that as a country, partisan approaches have left the country's performance suboptimal. If we agree that we are at the threshold of a number of important matters, experiencing significant negative critical mass in crucial areas, and at or approaching boiling points in issues that will have ubiquitous national impact then we must agree that pivoting to new approaches is critical. There is a lesson to be gleaned from Jamaica in the continuous application of its national development plan across multiple administrations;
● Confront the issue of taxation and the potential implications it holds for the country, onshore and offshore. It is important to note the declaration to undertake careful study of the tax regime. This though has meandered on the horizon of the economic landscape for a long while now and I believe that there is an unacknowledged urgency or at least a set of realities that may shorten the timeline we generally envision. There is no denying that this is a difficult matter. It strikes at the core of the current value proposition. However, it is important not to miss the global shift. The world is transitioning. Post Covid normalcy will see a more digitally adaptive global population. Take note of the behaviour of big influential countries and organizations. If we can fight them head on then we should go for it. If not we must strategically transform to put the country in the best position to thrive. The nature of the issue requires time and careful deliberation. We should invest wisely the currency of time such that we are never faced with making decisions without the space to fully contemplate alternatives and being able to manage any attendant shocks over a reasonable timeframe;
● The current debt situation demands a broader discussion beyond reduction. Remedial action must be tied to growth, which is tied to the fortunes of the financial services, tied to the fortunes of domestic investors, amongst other things. There should be a clear and broader discussion around debt management taking into account the interest of all the relevant stakeholders. This discussion should serve both as a platform for creating deeper appreciation of where the country is and a point for rallying the collective interest of the country towards its resolution. Everyone has a role to play and that must become blatantly clear; and
● Finally, a commitment to take a careful look at the facilitative environment. The announced InvestBahamas initiative is a step in this direction. However, many other aspects hold the potential for unlocking national value. A rethinking of the educational process, more strategic use of immigration as a means of creating broad based economic value, with larger internal markets, facilitating and targeting exporting potential in traditional and non-traditional areas and a call to action for changes necessary to create positive shifts in national productivity in all sectors of society.
CONCLUSION
In the realm of innovation, an important question that is asked is “what is the job to be solved?” I believe that this works here but in the plural form. What jobs did the budget have to solve and did it solve them? Was there clear solutions or priming for future growth? How facilitative is this budget or the initiatives announced? Regardless of your answers, I believe that this budget has some good things for this moment and of longer-term impact. There is no question, the budget sought to respond to some urgent matters, such as healthcare infrastructure and unemployment. Some forward-looking contemplations in the budget could hold positive results in the future. This is especially true for the focus on InvestBahamas. Generally, though, the current context within which the budget is set raises a number of questions as to whether it has at least started to answer the questions, which must be addressed for the future prosperity of the country while solving current problems.
We are at a tipping point. The task really is to look at the realities and ask how we can safely walk back from the threshold of those things that limit growth. How can we effectively manage those matters that may have or are approaching a boiling point and hold important influence for social and economic resiliency? In addition, what can we do to lessen those negatives that are at a critical mass and enhance others opposite, in favour of the country? The struggle I faced in the process of sharing my thoughts on the budget presentation I think is indicative of challenges anyone who has the best interest of the country will face. Contemplating the alternatives is not straightforward. Seeking to highlight the positives is not always easy as they come with attendant consideration of whether they are good enough, sound enough and whether there is clear commitment to follow through.
The areas of challenges loom in a large way like an ominous dark cloud with the potency to cover any sliver of sunlight that emerges. This to me encourages a coming together of the collective genius of the country. The difficulties perceived suggest that we are at an important moment where the collective holds great influence on the future fortunes. Left to the vagaries of isolated effort and thinking we run the risk of losing in important ways. Now is the time for a congealing of minds, thoughts and ideas. Now is the time for accepting things as they are and working to change the fortunes where they are inconsistent with our desires. Now is the time for the country to start actively thinking about how it can tip all scales in its favour, as best as possible and embark on the adventure of securing consistent, sustained and above average growth. Anything less will bring with it enhanced pain points. You must now judge how effectively I have accomplished the task. The choice is yours. I ask but for one thing let us not argue just to win but to build consensus, in the interest of the country, so that together we all can grow and thrive. Ubuntu!
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© Hubert Edwards 2021
Hubert Edwards is the Principal of Next Level Solutions Limited. Hubert specializes in finance/accounting; internal controls; enterprise risk management; governance, risk and compliance (GRC), with over twenty years of experience in corporate governance, policy and procedures development, enterprise risk management, regulatory consulting, anti-money laundering and strategic planning.