The IMF’s “Inconclusive” Concluding Statement – PART I




The themes in IMF’s recent Article IV Mission staff concluding statement, viewed abstractly, may appear paradoxical. This is because it is consistently understating positive highlights with cryptic cautionary undertones, juxtapose against instances of clear warnings, sedately conveyed. What I have done here is to rearrange aspects of the report in such ways that I believe conveys more clearly the messages that it seemingly intended but maybe deliberately blurred at the edges for the fundamental reason that the IMF wishes not to be seen as “dictating” policy to any government. A slow and careful assessment, reading between the lines, might just produce a clearer picture of the understated good, the bad and the concerning.


THE GOOD


Despite attaching cautionary notes to almost every item there is a substantial amount of good news in the statement. “The economy is recovering from an unprecedented downturn”. Obvious but important because we do not always appreciate the extent due to lack of information. Continued recovery is crucial. It holds much sway in how certain policy positions will play out in the near to mind term. If there is significant inflows tending to or surpassing pre-pandemic levels, I am confident that the edge on the tax reform conversations will be blunted, at least for a while. “The fiscal deficit is expected to narrow this year.” This is extremely critical. The smaller the deficit the more there will be to celebrate given that under current scenarios the ability to finance another large deficit will be extremely handicapped. Look around the region and observe the speed at which certain tax allowances are being effected in response to an inflationary environment. Compared those to the Bahamas and you will appreciate how crucial the return of economic normalcy is for the country. Every ounce of news about recovery is therefore not just good new, but fantastic news.


The authorities have strengthened their commitment to climate change policies”. A feather in the cap of the Prime Minister and his administration. He has emerged as a strong advocate for climate change reforms performing admirably on the global stage. This is a position though which creates important tensions with the country’s continued relationship with fossil fuel but nonetheless there clearly a greater push towards alternatives. Despite this, I believe that The Bahamas has at carved out a regional leadership space, alongside Barbados. The Prime Minister has been bold in this regard. While the actions will not readily translate into dollars and cents towards fixing our current economic plight, influence is being created which may later be leveraged for such gains. Further, it places the country squarely in the middle of the sustainable development conversation, which could hold sway in attracting green sustainable investments.


The central bank made good progress in setting up a bank recovery and resolution regime, but there is scope for further enhancements.” There is scope for growth but the mechanism is critical having regard for the obvious relatively recent experience with the government owned bank and the systemic implication indigenous banks have for the country. Foreign ownership of a number of local clearing banks provide a clear hedge against challenges this regime anticipates but it is clearly a great and important development for the country as far as financial system stability is concern. “The financial system is well-capitalized and liquid.” There were expectation that the pandemic would result in greater challenges for the system as a result of loan delinquency, this did not happen, or there is not yet any sign of pressure and based on Central Bank’s assessment this is not anticipated. With the level of capitalization being enjoyed, the stability of the financial system is on great footing. The level of liquidity in the system potentially augers well for the recovery process as banks seek to more productively exploit their balance sheet. I believe that the preceding points together with some recent and important policy changes, significant policy continuations from the previous administration, and the positive good fortune of a significantly waning pandemic are sound reasons for the country’s optimism to continue growing.


In my view the most significant point in the entire report is, “The government’s goal to achieve a 1½ percent of GDP fiscal surplus over the medium term is well-calibrated.” As per the fiscal strategy report and mid-year budget presentations, it is the intention of government to realise a surplus by 2024/25. This achievement rests fundamentally on the ability to increase tax revenue from the current level average level of 17-19% to 25%, a position more closely aligned with but less than regional peers. The impetus for this growth lies largely in reforms that will result instrengthening tax administration…measures [to] include the re-establishment of the Revenue-Enhancement Unit and an updated property tax roll.” That is good news. The IMF generally agrees with the efficacy of current administrations plans regarding the implementation of the stated reforms that represents a clear delivery of changes long enunciated by the ruling party, entrenched in its economic reform agenda.


In a seeming paradoxical move, the IMF then immediately stated, “A well-calibrated tax policy reform should go hand-in-hand with ongoing revenue enhancement efforts. Options include gradually bringing VAT rates close to the regional average of 15 percent, further limiting tax concessions, and increasing property tax rates on higher value residences. In addition, consideration could be given to corporate and personal income taxes for large businesses and high earners.” Again, on analysis it appears that the IMF is confirming and validating the strategic direction of the administration, good news. On the other hand there is enough daylight between the two statements to entertain a conclusion that the IMF believes that the first alone is either not sufficient in the first instance or alone will not be sustainable over the long run, a challenging position. I would anticipate that policy makers will help to eliminate any ambiguity here as more information on the reforms is provided.

Policy makers must pay close attention to these “good things” and push as hard as possible to squeeze every benefit, and move forward with the changes and reforms that will enhance their impact. Decisions should also be guided by the thinking about what can be done to shore up areas of fragility or maximize gains. For example now is the time for actively leveraging agriculture and other sectors to “domesticate” more of the tourism intake, much of which never hits the local financial system and therefore has little economic effect despite emanating from our most productive “asset”. It will be useful for changes to be assessed for sustainability and the projections are stringently stressed for downside scenarios and communicated to manage uncertainty, market sentiments and investors’ confidence.


THE BAD


It becomes difficult to accept a statement encouraging increase in a recently reduced tax measure, by a brand new administration, offering a myriad of other tax options, without concluding that the calibration indicated is limited to the efficacy of the implementation of the reform and not totally bolted to the desired outcome of 25% revenue to GDP. The one thing which is sure is that the tax reform conversation is hardening and the current administration has demonstrating a commitment to follow the path. The ultimate destination is as Moody’s puts it, contentious, a potentially uncomfortable reality with which to contend.

We hope the reforms to date will be effective and the Prime Minister’s promise of a tax increase, being a last resort, remains an unnecessary option. Time and a robust economic return and fiscal consolidation could be the great decider, providing an obvious hedge for the strategy employed to date. It is clear that the country faces serious decisions regarding its tax regime while understandably struggling with the tensions of rationalizing the need for increased revenues. The implications are not solely economic in nature and in this regard, it is difficult ignore the totality of the administration’s pronouncements to date. This is exactly what the IMF did, and then cryptically delivered a cautionary note.


The aspect of the caution that you might not find clearly stated in most place is that the fiscal space for the country is extremely limited and seemingly tightening. That there is a need for increased revenue there is no question. That the administration has laid out a plan to get there, beyond doubt. One question comes to mind, however, is the sustainability of the enhancement measures. Here is the play I think. My analysis of the current thrust plays out something like this. We must get to revenues up to 25%. We are hopeful for a relatively quick fiscal consolidation by roaring return of tourism and this together with the recent reforms reduces the immediate need for an increase in taxes. Clearly, we will contemplate the 15% minimum corporation tax on the basis that it poses a potential reputational issue for country. A simple, straightforward and generally sound approach, which limits the possibility of a disruptive decision. There is though one small wrinkle and that is the extent to which the general pool of uncollected taxes is, with effective collection, a fast declining one firstly of willing payers and then a difficult one of illiquid obligors. The potential wrinkle of the extent to which the reforms while effective will secure sustainable results vis-à-vis the targeted 25% revenue-to-GDP.


The IMF went on to state what is a theoretically valid position but appearing to lack practicality. It stated, It is recommended that the central bank allows interest rates to rise, as needed by market conditions, to support the currency peg without having to resort to a drawdown of international reserves.” A range of economic sources indicates that interest rate increases have some impact in increasing the value of a country's currency. However, it remains inexplicable as to why the IMF would recommend the need to increase the value of a pegged currency. The thinking is generally that higher interest rates tend to attract foreign investment, increase the demand for and value of the home country's currency. The question is under what set of circumstances one would envision this happening such that it would be considered prudent for the Central Bank to increase interest rates.


In Part II we will conclude assessment of “The Bad” points in the IMF concluding statement starting with the paradox of the recommendation for increased interest rates and then consider the “The Concerning” issues.


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© Hubert Edwards 2021

Hubert Edwards is the Principal of Next Level Solutions Limited (NLS), a management consultancy firm. He can be reached at info@nlsolustionsbahamas.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.

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