The value of the dollar is just a symptom of Jamaica's underlying problem

Keith Collister

Friday, June 14, 2013

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WHENEVER the Jamaican dollar comes under pressure, a lot of nonsense is spoken about speculators, frequently combined with a call for the government to "do something" to fix the exchange rate. The truth is, as long as Jamaica continues to run current account deficits exceeding 10 per cent of GDP, meaning how much our imports of goods and services exceed our exports (including gifts such as remittances), then the dollar will fall in the medium term to reflect this fundamental disequilibrium.

The only question will be the timing of the adjustment, which will depend on how positive both local and international players are on our ability to access the foreign exchange required to pay for this deficit, either as more loans or investments, and our Central Bank's willingness (and ability) to intervene to arrest any slide.

Some time ago, at the beginning of the last decade in about 2000, I was asked to write a paper for the Jamaica Chamber of Commerce on the topic of "dollarisation", meaning whether Jamaica should replace its currency with the US dollar, an extreme form of fixed exchange rate. I got comments from the then IMF representative in charge of the region, who advised he had shared the paper with the IMF's then deputy chief, the highly respected international economist Stanley Fischer, now head of the Bank of Israel, as well as very useful comments from our former Minister of Finance, and had the advantage of being able to use a presentation by the then Bank of Jamaica Governor as a starting point for my argument.

Whilst the paper identified a number of positives with dollarisation, particularly with respect to dealing with the then problem of excessively high interest rates, there were two critical issues, namely our very high debt, and our extremely low, indeed negative productivity growth, that made it a very risky solution. The Jamaica Chamber of Commerce in the end decided, rightly in my view, not to explore the matter further at the time.

The recent rise of the dollar above the psychological one hundred to one threshold against the US dollar has again brought the issue of fixing the dollar to the forefront, but this is to mistake symptom and cause. The initial rally in the dollar after the announcement of the IMF deal was, in my view, a purely technical bounce, reflecting the positioning of institutions (who were all long dollars) and the fraying of confidence generally due to the long wait for an IMF deal. Once it became clear we were going to get an IMF deal, institutions reduced their US dollar positions to get Jamaican dollar liquidity, which they were short on, and the man on the street had a greater level of confidence that economic collapse had been averted, reducing the panic buying of US dollars.

The level of overvaluation of the dollar, at over 20 per cent on one IMF measure included in the IMF's staff report, has been at least halved by the devaluation in the run-up to the IMF deal. Some of the other IMF measures actually suggested a significantly lower level of overvaluation. Historically, both in Jamaica and for the most part internationally, we have not seen a dollar collapse when the level of overvaluation is under 10 per cent, as these types of collapses typically occur when the dollar is more than 20 per cent overvalued.

The Bank of Jamaica has been buying the US dollars, for the most part at normal market averages, from the local financial institutions selling to get Jamaican dollar liquidity, with the goal of ensuring that we meet our IMF targets for the end of June for Net International Reserves (NIR). As of yesterday, the Governor advises, we are on track with net international reserves of US $1.023 billion, and gross reserves over the international benchmark of 12 weeks of goods and services imports.

Institutions are short of Jamaican dollar liquidity as they have been purchasing some of the attractive BOJ instruments being offered, and due to National Debt Exchange, which has locked in much of their funds at longer maturities.

According to the Governor, the goal is not to "mop up liquidity" (an overused phrase in his opinion) but to make institutions "focus even more carefully on their Jamaican dollar liquidity" by issuing instruments that incrementally shift liquidity away from the short term. This issuance is not aimed at preventing foreign exchange depreciation. He advises "Foreign exchange rate movements so far are within our expectations and are consistent with our inflation target (8.5-10.5 per cent) for the fiscal year."

In my view, it is clear that the Bank of Jamaica had no plans to revalue the Jamaican dollar a few months ago, but neither will it be a huge net buyer of dollars, as it has programmed only a very gradual increase in net international reserves over the life of the IMF deal. As I indicated in my radio interview on the topic in early April, a move of a dollar or two either way around the $100 mark in the short run (then defined as the next few months) would be wholly unsurprising (we are still well within that range).

In the medium term, or even over the next three to six months, however, we need to see very tangible signs of progress on economic policy, and an enormous improvement in trust between the government and private sector, and indeed in the wider society, if we are avoid the dollar coming under much more pressure. A true partnership between the government and private sector, focusing firstly on international competitiveness, would help immeasurably in restoring the currently extremely depressed, even shattered, level of business and consumer confidence. It is not yet fully clear, to this observer at least, that this is going to happen. The starting point is good tax and energy policy, and a social partnership focused like a laser beam on solving problems (improving trust is merely an outcome) of Jamaica's terrible international competitiveness situation. This time good pro private sector policies, not mere words, will be what is needed to drive the return of confidence to give us a fighting chance to avoid a bad outcome.




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