How Minister Clarke’s reduction in import duties can help productivity
Two Sundays ago at the Jamaica Labour Party annual conference Finance Minister Dr Nigel Clarke announced that he was planning to raise the duty-free allowance for importing personal items from US$50 to US$100 and to also double the duty-free allowance to US$1,000 for Jamaicans returning with goods from overseas.
As the minister noted, this is not a new issue and had come up from as far back as 2020 during the pandemic, but, as he put it, “there were concerns it would have an impact on the retail industry”. Of course it will! But the minister explained that, after weighing the pros and cons over the past three years, he thought it was “worth it”.
This change, to reduce “obstacles to trade” and “dealing with those we can afford to deal with”, suggests that Minister Clarke, like the vast majority of the private sector, believes that import duties generally are too high. He projects that the cost of this “free flow of goods of small value” measure at between $1 billion and $1.5 billion.
The move, coupled with the apparent near fruition of the long-awaited several decades attempt to update the Customs Act next year, suggests that the time is indeed ripe to look back at our overall tariff structure. It is almost a decade since the International Monetary Fund (IMF)-driven incentive reforms of 2014, which resulted in some very minor flattening of the tariff structure but still left Jamaica’s very high duties largely in place.
Reducing duties on those items most affected by the doubling of the threshold to level the playing field for domestic retailer looks like a no-brainer. This review was already overdue as global online retailers, like “the everything store” Amazon, had sharply increased their share of Jamaica’s retail market over the past decade — a trend accelerated by the pandemic.
Trading across borders
A recent presentation by the IMF’s Western Hemisphere Department at the Bank of Jamaica highlighted the other reason that we need to look closely at our tariff structure, namely that global trade these days involves goods continually crossing borders multiple times, particularly in manufacturing, and we should be trying to target many of the global trend towards nearshoring.
In such a world the cost of even small duties become multiplied, and small countries like Jamaica will always need to import the vast majority of their inputs. As economist Dr Damien King put it pithily, “We need to import to export”, but in our case we need to change our tariff structure to do even import substitution. Ironically, therefore, our high tariff structure may be another one of the many reasons for our poor productivity.
Last week we summarised part of Stanford economist’s Peter Blair Henry’s speech ‘Productive Public Investment’ on Jamaica’s poor economic performance over 60 years, but it is worth expanding on one particular segment due to our trade focus — what Henry calls The Self Reliance Bust (1973 to 1980) — for the lessons it outlines.
Jamaica already had a model of encouraging import substitution to some degree in the first decade post-Independence, as Dr Wesley Hughes rightly noted in his response to Henry, but when other economies, such as Singapore, were already moving to an export-led growth model, Jamaica moved to the exact opposite “self-reliance” strategy that included, in Henry’s words, “nationalisation of companies, erection of import barriers, and imposition of exchange controls…”, all drastically discouraging imports.
This was clearly one of the key reasons for a long period of declining capital stock, which Henry says fell every year, from 1978, for the next 13 years when foreign exchange remained limited under exchange control.
Becoming investment grade
Henry notes that Jamaica’s debt to gross domestic product (GDP) increased from 16 per cent at Independence to 24 per cent by 1972, but by 1980 had risen more than five-fold to 124 per cent. This was driven by a doubling of public spending from 23 per cent of GDP in 1972 to 45 per cent in 1978, with Jamaica running very large fiscal deficits. These were financed by the Bank of Jamaica printing money, and, predictably, inflation, which had averaged 4.4 per cent per year in 1962 to 1972, but by 1980 was 27 per cent per year.
Today, for the first time in almost five decades, Jamaica’s debt to GDP is below 80 per cent and falling, and our rating upgrades paved the way in allowing Jamaica, for the first time, to borrow in our own currency internationally, which most emerging market countries are unable to do.
Increasing physical investment to drive productivity
On the physical investment side, noting investment in infrastructure can raise productivity, but it is expensive. Henry proposes an addition to the existing Public Investment Management System (PIMS), which he calls the dual hurdle framework: $1 spent on a highway may generate an additional $1.30 in GDP for a 30 per cent social return; however, a $1 invested privately in call centre may generate $1.10 of GDP or only a 10 per cent social return. The highway investment, therefore, passes his first test, namely that for a public investment project to be societally beneficial and economically sustainable its social rate of return must exceed the social rate of return on capital in the Jamaican private sector.
However, domestic capital is limited, so his second hurdle is the rate of return required to attract foreign capital to Jamaican infrastructure projects. If the chief investment officer of the New York State Pension Authority requires a 15 per cent rate of return on domestic infrastructure projects and a 5 per cent risk premium for investing abroad, he argues this is still OK if the social rate of return in Jamaica of 30 per cent exceeds the asset managers risk-adjusted hurdle rate of 20 per cent.
The key question is: How much of this infrastructure should be financed by local capital in Jamaican dollars? For example, one of our local pension funds invests in a local infrastructure fund, and how much globally in US dollars in a global infrastructure fund.
There are some good arguments to avoid excessive foreign dollar denominated, particularly debt financing of domestic currency-earning infrastructure, which we will go into another time.