THIS article seeks to demystify the current predicament with which the Jamaican authorities have been grappling, with a view to allow the readers to formulate their own opinion.

As evidenced by developments in Greece, France and Italy, many indebted countries are today faced with the difficult choice of not providing stimulus and experience weak growth in the short term, or provide stimulus and face the risk of fiscal insolvency later. You should ask yourself whether Jamaica shares some similarities with the Greeks, French and Italians, and if your answer to that question is yes, then why are these countries (Greece, France and Italy) pursuing a path of fiscal austerity, and therefore what path should Jamaica embark on?

Keynes wrote in the 1960s

Many analysts have argued, based on the Keynesian school of thought, that countries faced with growth challenges should automatically respond with increased government spending. I respectfully submit that theory is not without flaws in today’s world. John Maynard Keynes wrote in the 1960s when the international capital market and the market for sovereign/external debt was in its embryonic stage and not as developed as it is today. As such, the idea of a highly indebted small economy susceptible to shocks would not have been a factor to contend with. Since the 1960s the field of economics has matured with the development of capital markets. Since then many scholars have been awarded the esteemed Nobel and the Bank of Sweden Prizes for work that has contradicted Keynes. In 1975 you had Milton Friedman, in 2006 you had Edmund Phelps and in 2011 you had Thomas Sargent and Christopher Sims.

The high government borrowing, high interest rate problem

Let’s focus on one of Jamaica’s major problems. High interest rates make it difficult for local businesses to respond to market forces and to government stimulus. If the government constantly borrows from the domestic market, then the domestic market will respond by charging higher interest rates. A business that the market usually sees as riskier than the government has to pay a mark-up (premium) above what the government pays. Interest rates can become so high, that a business cannot borrow money to invest and make a return that is greater than the interest it pays on the money borrowed. The government, although facing a similar problem as businesses, can still borrow and stay solvent for a longer period (note a longer period), because of the larger amount of resources at its disposal.

The ’80s explained

Greater borrowing from multilateral and bilateral agencies has a different impact on an economy than greater borrowing from the local market. Data from the Ministry of Finance (MOF) does indicate that by 1984 the nation’s debt had increased to 212 per cent of GDP. However MOF data also indicates that between 1984 and 1990, domestic debt averaged 26 per cent of total debt and the remaining 74 per cent is money borrowed externally from mainly multilateral (IMF, World Bank, IDB) and bilateral agencies. By borrowing from multilateral and bilateral agencies the government gets the fiscal space to make Jamaica a little more hospitable for foreign investment. Fiscal space is maintained because multilateral and bilateral funds come at subsidiSed interest rates, and are often accompanied with four and five year moratorium, which lowers debt servicing costs for the government.

Domestic interest rates however, were high in 80s (interest rates on the six month Treasury Bill was over 19 per cent in mid 1987) partly because government domestic borrowing was high relative to the size of the Jamaican economy. According to data from the MOF, between 1984 and 1990 total domestic debt was on average 43 per cent of GDP. This is part of the reason why foreign investment was so important in the growth generated in the late 80s, as local business men would find it difficult to borrow and invest at those high rates. Nevertheless, Bank of Jamaica (BOJ) data shows that economic growth surged in the late 80s leveling off in 1990 (TABLE 1). A favourable alignment of external factors and the high level of available multilateral funds precipitated much of the growth experienced. Undoubtedly, the nation experienced an unsustainable growth spurt, as some of the real impediments to sustainable growth were in place.

In the face of a rapid increase in aluminum prices, the mining and quarrying sector grew at rates exceeding 20 per cent. By the early ’90s the sector weakened as aluminum prices declined. The construction sector recorded strong growth in light of the massive reconstruction needed after Hurricane Gilbert in 1988. Given the extraordinary level of damage to the nation’s infrastructure the nation received a lot of aid and multilateral support. After the nation’s infrastructure improved, growth levelled off. The manufacturing sector strengthened following significant foreign direct investment to the sector. By the early ’90s many of these companies faced tremendous financial challenges following the liberalisation of the foreign exchange market. The finance and insurance services industry became very profitable within the context of high interest rates. By 1993, the sector weakened significantly amid excessive financial market volatility following the liberalisation of the foreign exchange market.

Fast forward 31 years

How do we then achieve sustainable growth, should we hope, for a re-occurrence of the late 80s, or do we implement policies that will encourage the building of a culture of domestic entrepreneurship? Today there are far more countries seeking substantial multilateral funding, and one should not assume that multilateral funds are infinite. Furthermore, under an IMF endorsed economic program multilateral lending agencies have already committed over US$2.4B (J$206.4B) for us to deal with the impediments to sustainable growth. Do we really need to borrow more? There also has been a global repricing of risk and as such it is very difficult for emerging economies like Jamaica to solicit foreign direct investment (FDI) inflows. It stands to reason in my mind, that today the first stage in the process of generating sustainable growth is to reduce government borrowing, but you can make your own assessment.

Kario-Paul Brown is an Investment & Quantitative Research Analyst at JMMB.