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Tough forecast for 2009 despite BOJ's efforts
KEN CHAPLIN
Tuesday, January 06, 2009
In spite of the best efforts by the Bank of Jamaica to manage the equilibrium of the country's fiscal affairs, including stabilising the foreign exchange rate, 2009 will be a challenging year for Jamaicans. The global economic crisis has had a devastating effect on Jamaica's foreign exchange rate, as that of our major trading partners and other countries over the past two years. The value of the Jamaican dollar now hovers at $80 to US$1.
The BOJ says that for most of the two-year period, the US dollar depreciated against other major traded foreign currencies - the Euro, the pound sterling, the Canadian dollar and the Japanese yen while the behaviour of the other currencies largely reflected trends in current prices, inflation differentials and capital flows. Up to September last year the exchange rate of the Jamaica dollar adjusted by about one per cent per quarter, a pattern that appears to have been built into market expectations and financial contracts.
On September 15, the failure of a very large financial institution precipitated a crisis of confidence that began in the USA and sharply curtailed the flow of institutional credit, cross-border flows of goods, services and capital. This disruption also triggered a flight to safety by investors with US Treasury investment, the top instrument of choice. The disruption has also been reflected in exchange rates with the majority of currencies in this sample set, registering sharp depreciation against the US dollar.
In Jamaica the movement in the exchange rate was the result of a combination of international and domestic factors. The key international triggers, BOJ's governor Derick Latibeaudiere says, were the loss of credit facilities by local institutions which had been accustomed to financing their holdings of long-term foreign currencies with margin arrangements with large Wall Street investment houses. The requirement that these be paid down or liquidated increased the demand for foreign exchange on the local market as dealers scrambled to meet deadlines. The loss of credit facilities was also experienced by importers at a time when it was most needed in order to re-stock inventories ahead of the Christmas period. Expectations also played a large role as regular users of foreign exchange anticipated a reduction in inflows that would ensure from a slowing in remittances and tourism receipts as the US economy slowed. The expectation motivated them to accumulate US dollars and to build precautionary balances ahead of their needs.
On the domestic front the key concern throughout the year was the rise in inflation fuelled by record increases in international commodity prices. Although these prices had started to fall by September, the widening inflation differential led some investors to believe that the Jamaican dollar was overvalued and was not sufficiently compensated by domestic interest rates. These concerns led some investors to build long positions in foreign exchange, thus exacerbating the shortage on the spot market.
The shocks to the foreign exchange were cushioned by a number of interventions by the BOJ. Since September 2008 the following actions have been taken:
. Heavy sales of foreign exchange to dealers and security firms.
. The establishment of a special loan facility for security dealers and other financial institutions to pay out margin arrangements.
. Intermediation of funds available for lending by domestic institutions in both local and foreign currency.
. Special issues of CDs to absorb excess Jamaican dollar liquidity.
. Increases in interest rates.
. Adjustment to the cash reserve requirements last month and an impending increase this month.
Latibeaudiere says some of the concerns that drove the depreciation in the exchange rate have begun to subside.
Supply to the market increased last month buoyed by remittance and tourism inflows. The expectation of loan funds to sustain the availability of trade credit and capital would also have served to reduce uncertainty. Some US$300 million is expected to be provided by the Inter-American Development Bank this month. Inflation has also moderated steadily in the last three months and the 12-month rate should fall to about 15 per cent by March 2009. The BOJ continues to maintain sufficient reserves to fill short-term gaps in the market and to underwrite the integrity of foreign debts, the BOJ governor informs me. As efforts intensify to boost growth in the developed countries, there is cautious optimism of a gradual improvement in the international environment.n
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